Sunday, 05 July, 2020

Loan period – more beneficial extension or shortening the repayment period?


The final cost of the loan consists of many parameters. These include loan amount, interest rate, additional costs, as well as the loan period. We have no influence on most of them, but we can manipulate the repayment period, i.e. choose a shorter or longer one. Thanks to this, depending on your needs, we will reduce the installment amount or the number of installments. But what will turn out to be a more advantageous solution: extending or shortening the repayment period?

If you are going to take out a cash loan, you probably wonder what repayment period will be most profitable for you. Do you always have to stick to it stiffly? And what if you want to shorten or extend the loan period?

By all means, you have such an opportunity, especially in the case of a mortgage loan, which can be repaid up to 35 years.

Loan period – definition

Loan period - definition

The loan period is simply the time when the borrower is required to repay the loan. This parameter has a big impact on the amount of installments. Typically, the longer the loan period, the lower the installments.

This does not mean, however, that the loan itself will be cheaper, moreover, its costs may even increase significantly. Most banks allow you to shorten or extend the loan period. Often, however, this involves additional fees.

In the case of loans for smaller amounts, the loan period is significantly shorter than in the case of a mortgage loan. The repayment period is partly dependent on the amount of our loan. It is logical that when we take out a loan for USD 200,000, we need more time to pay it back than when we borrow only USD 20,000.

KNF recommendation on the optimal loan term

The Polish Financial Supervision Authority (KNF) requires banks to recommend a repayment period of up to 25 years to retail clients. However, if the borrower wants to extend it, he gains such a possibility, however, as per the PFSA recommendation, the bank should not grant a loan with a repayment period exceeding 35 years.

Why is this happening? Even a decade ago, loans with repayment periods of up to 40-50 years were not surprising. An excessively extended repayment period causes a large increase in the borrower’s total costs. What’s more, it is associated with high risk for both the bank and the borrower, because it is characterized by increased sensitivity of installments to changes in interest rates.

Important!

The maximum loan term is 35 years and it is not possible to extend it!

What loan period should you choose?

What loan period should you choose?

Wondering what loan period to choose? Preferably one that will be tailored to your financial capabilities. However, this is not so simple.

You must also take into account creditworthiness. Moreover, the banks set the maximum age of the borrower which he will reach when the last installment is repaid. This means that when you are 55 years old, you can not count on a loan with a repayment period of 30 years.

Maximum loan term – advantages and disadvantages

Maximum loan term - advantages and disadvantages

Is it worth choosing the maximum loan period? It depends. This solution has its pros, although it seems that there are more disadvantages in this case. The main benefit is the lower installment. Therefore, if the installment amount is of key importance to you, then a long loan period will prove to be a good choice.

However, you must know that the overall cost of the loan will also be higher in this case. What’s more, for the whole period of its duration, you may have a problem getting another loan because your creditworthiness will decrease significantly. Why? Each financial liability affects the amount of creditworthiness, which means that you must spend part of your savings on paying installments.

The maximum loan period is a necessity for many people, because if you shorten it, your creditworthiness will also decrease. Of course, this does not apply to everyone, but with lower earnings, the bank may think that you can only pay the lowest installment.

It is worth following the example of the total cost of a mortgage with a maximum loan term of 35 years.

  • Loan amount: USD 200,000
  • Loan period: 35 years
  • Credit interest rate: 5%
  • Equal installments in the amount of: USD 1009.38
  • Total interest cost: USD 223,937, 35

Therefore, when deciding on a mortgage for 35 years, you have to pay back a huge amount, which can equal the doubled value of the borrowed amount. Below you can see how much less you pay off when you decide to take a loan for 20 years.

Shorter loan period – advantages and disadvantages

Shorter loan period - advantages and disadvantages

Shorter loan period means higher installments, which will not suit everyone. However, you get more time to pay back, and thus, you leave more money in your household budget. It is also a good step if you want to take out a second mortgage soon and you want to maintain your creditworthiness.

Let’s check how shorter the loan period is against the background of the above calculations for the maximum repayment period.

  • Loan amount: USD 200,000
  • Loan period: 20 years
  • Credit interest rate: 5%
  • Equal installments in the amount of: USD 1319.91
  • Total interest cost: 116,778, USD 75

So, as you can see, the installment is significantly higher in this case, but if you decide to pay back by 15 years (in this example you have compared a loan for 20 and 35 years, you will even get over USD 100,000).

Can I extend the loan period?

Can I extend the loan period?

Many borrowers are wondering if it is possible to extend the loan period and whether it is worth doing at all. What is it then? If you want to extend the loan period, you have the option. Thanks to this, your monthly installment may decrease and you will avoid financial problems.

However, you must know that the total loan amount will increase then. In addition, before making a decision to extend the loan repayment period, you should check the maximum possible loan period with your bank.

If you took out a loan for 30 years and the maximum loan period is exactly the same, you can no longer extend this period.

How to extend the loan period?

How to extend the loan period?

To extend the loan period, consult a bank adviser. It is best to do it directly at the facility, then all doubts will be dispelled on the spot. We can also get this information on the hotline.

You will also need to submit an appropriate document, i.e. an application for extending the loan period. You must remember that such a change will also affect other parameters of the loan, such as its total cost. It happens that you need to attach other documents to the application.

Application for extension of the loan period

If you need more time to repay the loan, you must apply for an extension of the loan period at the bank where you signed the loan agreement. Then you will need to enter an annex to the contract, which may involve an additional fee.

The bank may re-check your creditworthiness, and thus, require you to provide the documents required when applying for a loan, i.e. income certificates.

It is therefore worth to attach such a document to the application. Moreover, this document should contain information on why you want to extend the loan period.

Is it profitable to shorten the loan period?

Is it profitable to shorten the loan period?

What about shortening the loan period? Does this solution make sense? Is it profitable to shorten the loan period? The shorter loan period is mostly beneficial for the borrower.

First, the total cost of credit will then be lower, and secondly, it will be free from installments, which often weigh not only on the home budget, but also on the psyche. Thus, it will gain funds that it can spend on a completely different purpose.

Shortening the loan period, however, sometimes involves an additional fee. So before you choose a specific loan offer, check whether shortening the loan period will cost you a lot.

Loan period and age of the borrower

What is the relationship between the loan period and the borrower’s age? As it turns out very large. Each bank determines the maximum age of the borrower at the time of signing the loan agreement. Usually with a maximum loan period (35 years) it is between 35 and 45 years.

A shorter loan period is no longer associated with such large age restrictions, which is why a 10-year period may as well get a 60-year-old in 10 banks.

Loan period and cost of credit

Loan period and cost of credit

It is worth looking at one more issue and checking how the loan period affects the cost of the loan. We have already mentioned several times in this article that the longer the repayment period, the higher the total cost of the loan.

What’s more, extending the repayment period often involves additional fees, such as life or unemployment insurance. Therefore, if it is not necessary, it is better to avoid such a solution.

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