Is it better to take a personal loan with a longer or shorter repayment term? Here's how to decide (2024)

FAQs

Is it better to take a personal loan with a longer or shorter repayment term? Here's how to decide? ›

Longer terms usually equate to lower monthly payments and higher interest charges over the life of the loan. Shorter terms, on the other hand, have higher monthly payments but lower total interest costs. And all in all, personal loans can be pricey.

Short-term loans versus long-term loans

Shorter loan terms typically mean higher monthly mortgage payments, but often have lower interest rates. And if you pay off your mortgage balance within a shorter term, you may pay less in interest overall than with a longer-term mortgage.

Common Personal Loan Term Lengths

Typical personal loan terms vary by lender, but are often two to seven years. Some lenders offer terms as long as 12 years, but that's typically if you've borrowed a large amount. A personal loan with a term of three years or less may be considered a short-term loan.

You'll likely have to pay a higher interest rate.

A longer term is riskier for the lender because there's more of a chance interest rates will change dramatically during that time. There's also more of a chance something will go wrong and you won't pay the loan back.

Consider these three factors when shopping for a loan: A longer loan term means smaller monthly payments. Longer-term loans tend to have higher interest rates. Shorter-term loans usually have lower total costs, since you pay interest over fewer months.

For some borrowers, medium-term loans with three to five-year repayment periods offer the best of both worlds — manageable payments and reasonable interest charges. If you want to minimize the repayment timeline but need slightly lower monthly payments, this term length might make the most sense.

Long-term finance shifts risk to the providers because they have to bear the fluctuations in the probability of default and other changing conditions in financial markets, such as interest rate risk. Often providers require a premium as part of the compensation for the higher risk this type of financing implies.

A good interest rate on a personal loan is generally on the low end of the range, which currently starts around 7 percent. For example, if you have excellent credit, a rate below 11 percent would be considered good, while 12.5 percent would be less competitive.

Personal loan repayment terms typically range from two to five years and can go as high as seven years, or lenders may offer other terms. And you might be able to choose the term length that works best for you.

The benefits offered by long-term financing compared to short term, mostly relate to their difference in maturities. Long-term financing offers longer maturities, at a natural fixed rate over the course of the loan, without the need for a 'swap.

Is it better to get a long-term loan and pay it off early? ›

Yes. By paying off your personal loans early you're bringing an end to monthly payments, which means no more interest charges. Less interest equals money saved.

On the one hand, you save money on accruing interest when you pay off a debt early, and your debt-to-income ratio will go down. However, some lenders charge a prepayment penalty for early payments, and using your spare income to pay off your loan early means it won't be available for other expenses.

Extending your loan's term might give you more time to pay off a debt or lower your monthly payment. But it's not always an option, and extending the term can also lead to paying more interest over the life of the loan.

Personal loans typically have a term between 12 and 60 months. Long-Term Personal Loans: There are different personal loan term lengths – some borrowers might need a longer term and lower monthly payment. One example of a long-term personal loan might be a debt consolidation loan.

Since lenders charge interest payments monthly, a longer loan term inherently means more interest payments. Taking on a personal loan with a shorter term will help you save on interest charges (at the trade-off of having larger monthly payments, of course).

Long term loans can be a positive exercise for the consumer and a business. The flexibility of an investor's limited capital is increased while the positive credit that they have developed makes it easier and potentially cheaper to borrow in the future.

Long-term loans tend to carry less risk for the borrower, but interest rates tend to be at least slightly higher than for short-term loans. Long-term financing is typically used to cover equipment purchases, vehicles, facilities, and other assets with a relatively long useful life.

The bottom line. Although short-term loans are convenient and seem a great way to fix a temporary problem, they come with many risks. The fees and interest rates can top 400 percent, and payback terms can be as little as two weeks.

Interest Rates and Total Cost

Short-term loans tend to have higher interest rates, but the total cost of borrowing is lower due to the shorter repayment period. Long-term loans have lower monthly payments but may result in higher total interest payments over the loan term.