Can you pay off your car loan early?

What's involved with redeeming your car loan early? Find out if there are any penalties and how to calculate the final balance payable.

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Are you planning to sell your car? Perhaps you’re eyeing that shiny new model, or looking to upsize your drive to accommodate more people. If you have an existing car loan, understand that it cannot be transferred from one party to another. This means that if you want to sell your car before the loan matures, you will need to pay it off fully before the ownership transfer.

Considering that Singapore has the highest car prices in the world, most borrowers will tend to maximise their loan amount and tenure, which will then cause the early settlement to be a rather pricey affair. And due to the fact that most borrowers sell their cars within 5 years, early redemption of a car loan is actually quite a common practice.

Besides the outstanding instalments, additional fees and charges may be incurred if you redeem your loan early. So before you apply for a loan, make sure you’re aware of all the early settlement penalties. The guide below will help.

Why are there penalties for early settlement?

Early settlement penalties are charged, usually 20% of the unpaid interest, to make up for the bank’s administrative costs and commission incurred by them. This means that the bank will only rebate the borrower 80% of the unpaid interest instead of the full amount, resulting in the borrower paying more interest overall.

Banks also generally levy an additional early settlement fee (on top of the 20% unpaid interest calculated based on the Rule of 78) as well:

DBSStandard CharteredHong Leong FinanceMaybankUOBTokyo Century Leasing
Early redemption penalty1% of total financed amount1% of total financed amount1.5% of outstanding loan amount within 18 months. No penalty after 18 months.1% of total financed amount1% of total financed amount1.5% of outstanding loan amount throughout the tenure. Additional 1% for the first 12 months.

*Fees are accurate as of 19 April 2018.

How to calculate early redemption amount

Early settlement for car loans in Singapore is calculated using the Rule of 78. This is a formula used to compute the interest charged on a loan across its payment period. While this may seem like a rather complex calculation, it only requires a few steps which we’ll illustrate in the example below.

Calculate your outstanding instalment amount

Let’s say you have a five-year loan of $50,000 at 2.5% interest p.a and you want to pay off your loan early after 25 months.

Loan amount = $50,000
Loan period = 5 years originally
Interest rate = 2.5% p.a.
Total interest payable = (2.5% × 5 years × $50,000.00) = $6,250
Total amount owed = ($50,000 + $6,250) = $56,250
Instalments already paid (for 25 months) = ($56,250/60) × 25 = $23,437.50
Outstanding instalment amount = $56,250 – $23,437.50 = $32,812.50

The Rule of 78

In this step, we’ll calculate the interest rebate on the outstanding loan period (which is 35 months, based on the example above). The bank will then charge a percentage of this as a fee for early repayment. This fee percentage may differ between lenders, but most Singapore banks generally fix the rate at 20%.

The formula to calculate interest rebate is:
(n[n+1] ÷ N[N+1]) × Total Terms Changes

Where,
“n” represents the balance loan period in months;
“N” represents the original loan period in months;
Total Term Charges represents the total amount of interest payable over the loan period.

Interest rebate on the remaining 35 months, according to Rule of 78:
= (35[35+1])/(60[60+1]) × $6,250 = $2,151.64

80% of interest rebate = $2,151.64 x 80% = $1,721.31
20% bank fee = $2,151.64 × 20% = $430.33

Calculating the early redemption penalty

Just like the portion from the interest rebate charged as a fee, different lenders may charge different amounts for this early settlement penalty. Since most local banks charge 1% of the total financed amount, we’ll calculate it based on our example above.

1% of total financed amount ($50,000) = $500

Final amount payable

The balance payable for early redemption would be
= Remaining instalment amount – 80% of interest rebate + 1% of total financed amount
= $32,812.50 – $1,721.31 + $500.00
= $31,591.19

Bear in mind that the final amount payable might differ if you’ve received a rebate for your loan, so always check with your lender on the exact loan redemption amount that you’ll need to pay.

What else should I know about early redemptions?

Depending on the features of your loan, early repayments can be considerably expensive. Before committing to a car loan, make sure you compare all the early settlement penalties charged by the banks or finance companies before deciding on which to go for. You can never be too sure of when you might need to sell your car, so understanding the potential risks in advance can help you minimise costs down the road.

When it comes to purchasing a car in Singapore, the most important thing is to always select a car and loan that you can actually afford.


Picture: Shutterstock

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