We never know when an emergency may arise, which invariably places a great deal of strain on our cash flow. And due to the urgent need for funds, people are likely to borrow in haste and not make a calculated decision on the overall cost of borrowing and its impact on their budget. So it is important to search for ways to reduce the interest payable, and thereby reduce your EMIs.
There are mainly two approaches to reduce your personal loan EMIs including loan refinance or a transfer of personal loan balance. Let us take a closer at loan refinancing.
Meaning of personal loan refinancing
Refinancing a personal loan involves obtaining a new loan to pay off one or more existing loans. This process, known as refinancing a personal loan, is typically pursued by borrowers to lower their monthly payments or achieve other financial benefits. Understanding the refinance loan meaning is essential for anyone considering this option to improve their financial situation.
Refinancing can also be used to get a longer-term loan with lower monthly payments for debtors who are having difficulty paying back their loans. In these instances, the total amount paid will increase as interest must be paid over a longer period.
You can use the personal loan EMI calculator to get an estimate of your personal loan instalments.
How do a refinance work?
A personal loan refinance involves taking out a new loan to pay off an existing personal loan, typically with the goal of securing better terms. When you refinance, the new lender pays off your current loan, and you start fresh with a new agreement. This can result in a lower interest rate, reduced monthly payments, or a different loan duration.
To initiate the refinance process, you first assess your credit score and financial situation, as these factors influence the rates you may qualify for. Once you choose a lender, you submit a loan application, including details about your income, debts, and the existing loan. The lender evaluates your application and may require documentation. If approved, you'll receive the funds to pay off the old loan, and you'll begin making payments on the new loan. Refinancing can lead to significant savings and improved cash flow, making it a smart financial strategy for many borrowers.
Benefits of personal loan refinancing
Refinancing your personal loan can provide several benefits, including:
Benefits of refinancing a personal loan include:
- It could be possible to reduce your monthly payments to one that is more manageable.
- The terms of your personal loan could be modified if you refinance it. You can set a shorter loan tenure and save money on the total interest paid.
Types of refinancing
1. Rate-and-term refinance
This type of refinance in India focuses on changing the interest rate and/or the loan term of your existing loan. Borrowers typically pursue a rate-and-term refinance to secure a lower interest rate, which can lead to reduced monthly payments and overall interest costs. It may also involve extending or shortening the loan duration to better fit financial goals.
2. Cash-out refinance
A cash-out refinance allows borrowers to take out a new loan for more than what they owe on their existing loan. The difference is given to the borrower in cash, which can be used for various purposes such as home improvements, debt consolidation, or other major expenses. This option can be beneficial if your property has appreciated in value.
3. No-cost refinance
In a no-cost refinance, the lender covers the closing costs, either by charging a slightly higher interest rate or rolling the costs into the new loan amount. This option can be appealing for those who want to refinance without upfront expenses, though it may lead to higher long-term costs.
4. Streamline refinance
Designed primarily for government-backed loans like FHA or VA loans, streamline refinancing simplifies the process by minimizing paperwork and often waiving the need for an appraisal. This can be a quick way to secure better loan terms with less hassle.
Each type of refinancing serves different financial needs, so it's essential to evaluate your situation to choose the best option.
How to refinance a loan?
1. Assess your current loan
Begin by reviewing your existing loan’s terms, interest rate, and remaining balance. Identify your goals for refinancing—whether it’s reducing monthly payments, lowering interest rates, or accessing cash.
2. Check your credit score
A good credit score can help you secure better rates. Obtain a copy of your credit report and ensure there are no errors. If your score is low, consider improving it before applying.
3. Shop for lenders
Research different lenders, including banks, credit unions, and online lenders. Compare interest rates, terms, and fees to find the best deal. Get pre-approval from multiple lenders for a clearer picture of your options.
4. Gather documentation
Prepare necessary documents, such as income verification, tax returns, and details about your existing loan. This will streamline the application process.
5. Submit your application
Complete the application process with your chosen lender. Once approved, the lender will pay off your existing loan, and you'll begin making payments on the new loan.
6. Review the terms
Before finalising, carefully review the new loan terms, including any fees. Ensure it aligns with your refinancing goals.
Pros and cons of refinancing
Refinancing a personal loan can offer numerous advantages, such as lower interest rates and reduced monthly payments. However, it’s essential to weigh these benefits against potential drawbacks, like fees and a longer repayment period. Understanding the pros and cons can help you make an informed decision about whether refinancing is the right choice for your financial situation.
Pros |
Cons |
Lower interest rates |
Possible fees and closing costs |
Reduced monthly payments |
Longer repayment period |
Access to cash (cash-out) |
Potential impact on credit score |
Improved loan terms |
Risk of higher overall costs |
Simplified payment process |
May require a new application |
Additional read: Pros and cons of refinancing
Example of refinancing
A refinance example can be illustrated with a borrower who has a personal loan of ₹1,00,000 at a 15% interest rate, resulting in monthly payments of about ₹3,500. After improving their credit score, they qualify for a new loan at 10%. By refinancing, they take out a new ₹1,00,000 loan to pay off the original. Their new monthly payment drops to approximately ₹2,200, saving them ₹1,300 each month. Over the life of the loan, this could lead to substantial savings in interest costs, showcasing the financial benefits of a successful refinance example.
Best time to refinance a personal loan
- Your lender is offering an attractive interest rate: It is a good idea to refinance your personal loan if you believe that the interest rate charged by your current lender is excessive and another lender is offering an attractive personal loan interest rate. A reduced interest rate would result in lesser monthly payments.
- Your CIBIL Score has increased: If your CIBIL Score has increased, creditors may offer you better offers on interest rates, processing fees, etc. In such situations, you can refinance your personal loan to get more favourable terms.
- Your monthly income has increased: If your monthly income has increased significantly, you may wish to pay off your loan obligations immediately. In such situations, you can choose to shorten the loan term by refinancing the loan.
- You want to lengthen the loan's repayment period: You can finance your when you want to lengthen the period of repayment so that your monthly EMI is decreased.
- Add or remove a co-applicant from the loan: If you want to add or remove a co-applicant from your loan account, you can refinance your personal loan. You can add or remove a co-applicant when you refinance your loan because you will have a fresh set of terms and conditions.
What exactly does a refinancing do?
Refinancing a loan involves replacing an existing loan with a new one, typically to secure better terms. This process can lower interest rates, reduce monthly payments, or adjust the loan duration, helping borrowers manage their finances more effectively. When refinancing, the new lender pays off the old loan, and the borrower starts fresh with a new agreement. Additionally, refinancing can allow access to cash if opting for a cash-out refinance, where the borrower can take out more than owed and receive the difference in cash. Ultimately, refinancing a loan aims to improve financial stability and reduce costs.
Does refinancing hurt your credit score?
Refinancing can impact your credit score, but the effects are generally temporary. When you apply for a new loan, lenders conduct a hard inquiry on your credit report, which may cause a slight dip in your score. However, if you successfully refinance and lower your interest rates or monthly payments, it can improve your credit utilization and payment history over time, potentially boosting your score. Additionally, consolidating debt through refinancing can help you manage payments more effectively, contributing positively to your credit profile. Ultimately, while there may be short-term effects, responsible refinancing can lead to long-term credit benefits.
Conclusion
Refinancing a personal loan can be a lifesaver when you have too much debt. You may streamline your finances and make it simpler to budget if you refinance your personal loan and combine your present bills into a single, reasonable monthly payment. You might be able to borrow more money than the total of your current loans if you have a strong credit score. In other words, you can get a loan top-up.
Get a Bajaj Finance Personal Loan of up to Rs. 55 lakh to manage all your expenses in a stress-free manner.
