Confused By Interest Rates in Personal Loans? Empire Global teaches you

Confused by terms used in Personal Loan? We teach you!

All these financial terms! Frustrated?

Getting a personal loan? Stumbled by the many jargons used by banks and money lenders? Heard of “Effective interest rates (EIR), Annual interest rate (AIR)” Well, let us at Empire Global take you through the many different terms used in personal loan and how you can get the appropriate loan type.

Rule of thumb: BE SMART and careful when you apply for a personal loan, you would not know when the interest rates hits you hard.

As money grows tight in a rapidly growing economy, people starts to take up loans for themselves. Personal loan, payday loans, home loans. However, it is often common that borrowers take up the wrong loan type for themselves or signed off a loan too early which they can’t repay well. Well, today we talk about personal loan and how you should really be careful about the terms spelt out.

What Borrowers Should Learn about Effective Interest Rates (EIR)?

As a borrower, one should be concerned about EIR for your personal loan. When analysing a loan, it can be difficult to get a clear idea of the loan’s true cost based on everything the bank provided.

There are several terms used to describe the interest rate, including effective rate, nominal rate, and more. Amongst all these, the effective interest rate (EIR) is perhaps the most useful, giving a relatively complete picture of the true cost of borrowing (which is why at times its seldom advertised too!)

To calculate the effective interest rate on a loan, you will need to understand the loan’s stated terms and perform a simple calculation. In short, effective interest rate attempts to describe the full cost of borrowing.  It takes into account the effect of compounding interest which is usually left out of the nominal or “stated” interest rate.

For the mathematical inclined!

Effective Interest Rate Formula for the Mathematically Inclined

Effective Interest Rate Formula for the Mathematically Inclined

A typical case scenario is when you have a loan with 10 percent interest compounded monthly. But in face, it carries an interest rate higher than 10 percent, because more interest is accumulated each month.

Interest Rate = 10% monthly
Actual Interest Rate > 10% monthly

Let’s Break Down Effective Interest Rate Further

1. Determine stated interest rate & number of compounding periods

Firstly, determine the interest rate that is quoted to you and the number of repayment periods. Stated (nominal) interest rate will be expressed as a percentage.

Compounding periods will typically be monthly, quarterly, annually, or continuously.

Stated interest rate = ___%

Compounding periods:

monthly = 12

quartely = 4

annually = 1

2. Making use of the Effective Interest Rate Formula

The effective interest rate is calculated through a simple formula: r = (1 + i/n) ^n -1.

r = effective interest rate

i = stated interest rate

n = number of compounding periods per year

3. Performing calculation of Effective Interest Rate

For example consider a loan with stated interest rate of 5% that is compounded monthly.

Based on the formula yields: r = (1 + 0.5 / 12)^12 – 1, or r = 5.12%

Example of Effective Interest Rate calculation for monthly repayment

Example of Effective Interest Rate calculation for monthly repayment – Credits Wikihow

Another example if it was compounded daily.

Based on the formula yields: r = (1 + 0.5/365)^365 – 1, or r = 5.13%

Note: Effective interest rate will always be greater than the stated rate

Considering home loans? Read more on:

2 Main Factors to Check before getting a Personal Loan

1. Compare before you borrow. Be paranoid about it!

Singapore has a huge range of banks and lending companies to choose from. It’s little wonder with the intense competition that personal loan interest rates sway greatly every time. Hence it’s best that you do your research and shop for the best persona loan at the time you need it.

Beware of marketing gimmicks
Free luggages a norm in Bank Marketing Gimmicks

Free luggages a norm in Bank Marketing Gimmicks. Beware of such gimmicks before taking up a personal loan!

One of the basic reason why interest rates fluctuate so much? Banks make money from charging interest rates. Depending on the popularity of personal loan in the market, they can charge lower or higher. You remember those free gifts and luggages when you sign up for a personal loan?

Well, that’s a marketing perk that banks try to get you to signup with their personal loan and take your attention off the high interest rate on offer.and banks can get desperate.

2. Show me the money

As a borrower you would want to pick a loan type to best suit your financials and repayment ability. Some companies will include additional fees such as processing fees, insurance fees which will unknowingly add to your total repayment.

Hence be a smart financial shopper. Be savvy about it. You want to borrow when the the banks are low on clients.

Enough of bank interest rates & terms!

Interest rates. Just show me the money.

Interest rates. Just show me the money.

There are many ways out of financial problems. All that is required is to seek professional advice from the right people. When you are shopping for a loan, be mindful of the different rates that a bank or institution quotes. Always ensure you understand which rates they are quoting and then compare the equivalent rates between alternatives.

These article is just an overview of effective interest rate. Look out for our next article when we go in-dept on personal loan and all the interest rates terms. Leverage on the proper loan by picking the one that suits you best for your situation. In short, do your research well!  

Empire Global is a licensed money lending company in Singapore. We place great emphasis on dishing out proper financial advice to our customers before they sign on the dotted line.

0 replies

Leave a Reply

Want to join the discussion?
Feel free to contribute!

Leave a Reply

Your email address will not be published. Required fields are marked *