Here’s How Much a Single Percentage Point Can Change the Cost of Your Loan

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Understand your loan terms

No matter what you’re shopping for — whether it’s a mortgage, an unsecured personal loan, or a new credit card — interest rates matter. Agreeing to pay a single percentage point more in interest is like allowing the bank to siphon extra money from your account each month.

One surefire way to avoid bad deals: Understand the loan repayment terms. And keep an eye on the total cost, rather than the monthly payment.

To score the lowest possible interest rates, start by boosting your credit score. This can be the difference between snagging a loan when you need it or hoping you can find enough in your checking account to cover an emergency situation. There are lots of ways to improve your score. Ultimately, the best strategies are simply paying your bills on time and minimizing the amount of debt you carry.

A final example

For the purpose of illustration, let’s say you’ve been dreaming of a kitchen remodel. You fall in love with a display set up at your local home improvement store. The salesperson mentions the price — and you swallow back your surprise. It’s thousands more than your cool-headed research predicted.

The salesperson insists that the number you’ve run across online is the manufacturer’s suggested retail price. Apparently, demand for this particular design is so high that people are willing to pay more. The salesperson makes a few suggestions for how you can pay for your dream kitchen, from paying out of pocket from your checking account and taking out a store credit card to pay the rest to applying for an unsecured personal loan.

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You wisely turn to leave, but the salesperson stops you and asks what your ideal monthly payment would be. They mention a banker who might be willing to help you secure the perfect personal loan. The salesperson casually asks about your credit score, and you suddenly feel nervous. As much as you want a kitchen remodel, you wish you’d left the store as soon as you heard the price. Besides, you’re not sure about taking out a personal loan and adding to the debt you already have.

But the price the salesperson is now quoting on the cabinets and countertops is lower than anything you’ve seen online. You can already imagine hosting Thanksgiving dinner in your new kitchen. At this point, you’re emotionally committed. The salesman calls up the loan officer, and even though you know you’re making an emotional decision, you agree to let the bank run a credit check. It comes back a little better than you expected. You’re so relieved that you suddenly feel as though it might be okay. You can take on another monthly payment in exchange for your dream kitchen, right?

The lender emails a loan application for you to fill out right there in the store. The APR that you are quoted on the loan is about 1% higher than expected, but you don’t worry. After all, how much damage can 1% do? The lender also suggests that you stretch the personal loan term out over 72 months instead of the 60 months you requested to “keep the monthly payment down.”

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By now, you want that new kitchen so much that you agree to a loan term without crunching the numbers. You sign on the dotted line without thinking about how much you will pay in total.

Don’t be that consumer. Never forget that you have the power to walk away from a bad deal.

We’re all human. We’ll continue to self-diagnose based on the latest Google search results. We’ll still touch a plate the second a server warns us it’s hot. And we’ll still make financial mistakes. What makes us smart humans is correcting those mistakes so that next time, we can get it right.

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View more information: https://www.fool.com/the-ascent/personal-finance/how-single-percentage-point-affects-loan/

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