Should I clear a personal loan before the mortgage?

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Danhas

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I have a personal loan with 3 years left on it. It is a variable rate at 6.8% so i can pay a lump sum whenever I want.

I also have a mortgage that is fixed rate at 3%. I rang the bank and they said there is no fee today for paying a lump sum.

I am trying to decide what to do. I used a savings calculator and If i pay 2500 off the loan, I save 300 euro in interest payments. If i pay 2500 off the mortgage I save 2600 in interest payments. So it sounds to me like I will save a lot more money if I pay off the mortgage. I always see advice that says to pay off the higher-interest loans first but I don't understand why. I will pay a lot less interest if I pay a lump sum off my mortgage instead of the personal loan. It seems like my 2500 euro put toward the mortgage will have a much higher return in the long run.
 
Always pay off the higher interest rate loan first. Your interest saving on the personal loan is over three years while the mortgage is over 20 years or whatever you have left. You are comparing apples and oranges (or more accurately red and green apples...).
 
tallpaul said:
Always pay off the higher interest rate loan first. Your interest saving on the personal loan is over three years while the mortgage is over 20 years or whatever you have left. You are comparing apples and oranges (or more accurately red and green apples...).
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Agreed. And the personal loan rate is variable so no surprises if that is going up.
 
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tallpaul said:
Always pay off the higher interest rate loan first. Your interest saving on the personal loan is over three years while the mortgage is over 20 years or whatever you have left. You are comparing apples and oranges (or more accurately red and green apples...).
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What I can't seem to wrap my head around is where time works in the favour of the loan. So I save 300 euro if I part with 2500 today and put it toward my loan. Ill see that saving in 2 years time since the overpayment knocks 1 year off the 3 remaining years.

If I do the same for the mortgage, I'll save 2600 euro if I part with the 2500 today and put it toward the mortgage. It will take 24 years for me to see that saving because that's what will be left on the mortgage term if I do that.

The way I am (incorrectly) looking at this is that I have 2 places to put my 2500 euro. The first location will give me 300 euro in 2 years time and then its over. The second location will give me 2600 in 24 years. Longer wait time and less money per year but its not like i can repeat the 2500 toward my loan every 3 years since it will be gone. So if im willing to wait, i can use the 2500 euro to save a lot more money if i am willing to wait longer. This is obviously the wrong way to look at it as everyone seems to agree clear the loan first but i just cant get it to make sense to me
 
Pay off the higher interest rate and redirect that money into the mortgage.

The reason you can't understand it is you are looking at just the amount saved. You are not considering the size of the debt or the term it will be repaid over.

The personal loan is small and repaid over a short amount of time. But the interest rate is high.
The mortgage amount is large and repaid over a long period of time. But the interest rate is low(er).

As with anything in maths, find the common denominator e.g. have the same term and you will get the true comparison figure.
 
@Danhas Do you have the option of shortening the term of the personal loan when you pay the lump sum off it? If you do, you will save more in interest than if you leave the term unchanged.

The downside to doing this is that you will be obliged to keep the monthly repayments at the same level as they are currently. That could be a problem if you get into financial difficulty.
 
Paul F said:
@Danhas Do you have the option of shortening the term of the personal loan when you pay the lump sum off it? If you do, you will save more in interest than if you leave the term unchanged.

The downside to doing this is that you will be obliged to keep the monthly repayments at the same level as they are currently. That could be a problem if you get into financial difficulty.
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A lump sum off the loan will keep monthly repayments as they are and will result in the loan being fully paid off a year early. I would prefer this. I know the risk of hitting financial issues is there but it seems like ill save more money in the long run if pay it back faster
 
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