What Are Prepayment Charges On Business Loans?

Prepayment is a penalty that a lender may charge when you pay your loan amount before the end of tenure. The prepayment charges may vary among lenders. Read the article to know in detail.

31 Aug,2022 19:18 IST 5 views
What Are Prepayment Charges On Business Loans?

Business loans can have a long tenure. However, the longer the loan term, the higher the interest rate and stress of monthly payments. Therefore, paying the loan sooner seems attractive when a business earns good profits. However, it may attract prepayment charges.

What Are Prepayment Charges On Business Loans?

Prepayment charges on business loans are the fees lenders charge borrowers for paying the business loan amount before the end of tenure. Repayment of the loan before the term ends would result in a loss of some interest income for lenders. Therefore, they add prepayment charges. Lenders specify such charges in the loan documents.

How Are The Prepayment Charges Calculated?

The prepayment charges are calculated based on the remaining loan amount, not the whole amount. Therefore, if one has already repaid a 10-year loan in four years, the prepayment charges would be lower than when you would have repaid the loan in three years.

Similarly, the penalty charges imposed on part prepayment would be lower than full loan prepayment. One can use an online prepayment charges calculator to determine them.

The elements required to calculate prepayment charges include:

  • Loan amount
  • Tenure
  • Interest rate
  • Prepayment charges in terms of percentage
  • Months/years of prepayment

How Much Are The Prepayment Charges?

The prepayment charges for business loans vary among lenders. If you attempt a full loan prepayment, the fees may be between 2-5% of the remaining principal and the part of the principal paid in the EMIs of the previous year.

If one goes for part prepayment, you may be free of prepayment charges for up to 25% of the remaining loan amount.

In addition to prepayment charges, the GST may apply on prepayment according to the loan’s terms and conditions.

Is It A Wise Decision To Prepay A Business Loan?

You can consider whether prepayment of a loan is a good decision based on its pros and cons.

Some advantages of prepaying a business loan include:

  • You can be free from monthly installments.
  • You can save an interest amount and invest it to gain returns.
  • Your credit score may improve because of the early payment of a loan.

The cons of prepaying a business loan include:

  • Prepayment of a loan can put the business in a cash crunch.
  • Higher prepayment charges can put additional pressure.
  • A company may lose tax benefits as interest on a loan is deductible under the Income Tax Act.

Prepayment charges are the fees for paying a loan before the pre-decided schedule. You can decide whether to pay a business loan before tenure by comparing the saved interest amount through prepayment against payable charges.

FAQs

Q1. How do I avoid prepayment charges?
Ans. One way to avoid prepayment charges is to make a loan payment after surpassing the number of months that would involve a prepayment fee. Negotiating with the lender may also help.

Q2. Can banks charge prepayment charges?
Ans. Banks do not charge prepayment penalties on floating rate loans, except for business purposes.

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