You don’t always have to play by a lender’s rules.
- Special payments are not always credited to the loan amount.
- Compound interest means you pay interest on interest.
- It’s up to you to call the lenders to learn how to apply funds directly to the capital.
Tori Dunlap, an internationally recognized money expert, has an ax to grind with lenders of all shapes and sizes. It’s about how difficult lenders are making it for borrowers to prepay debt. Luckily for her financial feminist Podcast also offers Dunlap advice on outsmarting sneaky lenders.
while writing her book financial feminist, Dunlap noted that some women don’t fully understand how credit works. In fact, it was the number one reason why women went into debt, or more into debt.
Though Dunlap didn’t say so, it’s safe to assume that many people — regardless of gender — aren’t entirely sure how credit works. We have a “broad idea” but don’t always understand the details contained in the loan agreements we sign.
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The easy stuff
Most people understand that a loan has two parts: principal and interest. Let’s say you take out a $20,000 loan at 9% interest. Principal refers to the $20,000 that goes into your bank account (or to cover the cost of something you bought), and interest is the amount you have to pay the lender for lending the money. A large portion of each payment (especially in the first few months or years of the loan) goes toward paying interest, while doing little to reduce the principal amount owed.
Where things get a little confusing
Most loans include compound interest. This means that in addition to paying the 9% interest you promised when you borrowed the $20,000, you must pay Interest on the 9% interest. That’s correct. Lenders charge interest on the interest you already pay as if it were part of the principal balance.
Compound interest is a nice thing when you’re making money investing, but it sucks when you’re trying to get out of debt.
You have to love Dunlap for quoting Albert Einstein here. Einstein is reported to have said, “Compound interest is the eighth wonder of the world. Those who understand it deserve it… those who don’t… pay for it.”
How lenders can be downright sneaky
According to Dunlap (and everyone else in the free world), corporations are out to make a profit. “So they will put anything in your way to help them make more money. This includes making it harder or harder to pay off your loan sooner.”
Let’s say you have a personal loan or car loan that you want to pay off early. You send an extra $100 each month because you believe the funds will repay the principal. However, the company does not apply this money to the principal at all. Instead, they apply it to next month’s payment, or apply part to principal and part to interest.
It may not seem like a big deal, but as Dunlap says, “Rather than just throwing extra money on the loan, you want to contribute any extra money you have to the principal on that loan.” When you pay back the principal, pay You ultimately get less interest.
Dunlop tells an interesting story about a time when she wanted to pay off her car early. Every month she sent Toyota an additional $50. After realizing that the company was not passing the funds on to the client, she visited the Toyota website. Not wanting to take the easy way out, the automaker didn’t provide instructions on its website for pure capital payments.
When she called customer service, Dunlap said she spent 20 minutes on hold only to be told that if she wanted to make contributions to the principal, she had to send money to any PO Box in Iowa. She only knew because she called and asked.
Businesses know that most people don’t bother to call and ask.
And this is where Dunlap’s plan comes in. She says if you have extra money to pay off a loan sooner, call the lender. It doesn’t matter if it’s a credit card company, a mortgage lender, or some other type of lender. Call before sending extra money. Make sure you understand the lender’s process for direct principal repayment.
Dunlap’s message is worth repeating: “Companies aren’t out to help you. They are out to keep you in debt because they make money from it.”
Luckily, once you figure out how to focus on paying the principal, it’s within your power to focus on it.
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