Applying for a personal loan is a decision that has a significant impact on your immediate finances as well as your financial and credit future. One of the most crucial components of a personal loan is the personal loan interest rate.
In India, most personal loans are offered at fixed interest rates. However, some lenders may offer floating-rate structures, though these are less common compared to secured loans like home loans.
Both work differently. In this article, we explain their differences and implications. This allows borrowers to make an informed decision that is aligned with their financial goals.
What is the structure of a personal loan interest rate
A personal loan interest rate is the major component in the cost of borrowing, excluding bank fees, processing charges and other costs. This is the rate a lender charges for providing a loan. Interest rates on personal loans are calculated based on the borrower’s credit profile, current financial capability, repayment history and bank rules.
Two types of interest rates offered are:
- Fixed interest rates
- Floating interest rates
Let us understand both of them in detail.
What is a fixed personal loan interest rate?
A personal loan with a fixed interest rate throughout the loan tenure is a fixed-rate loan. The rate of interest fixed at the time of loan approval is carried throughout, irrespective of the fluctuations in the lending markets.
Key factors of a fixed personal loan interest rate are:
- Interest rate and EMI are constant for the entire loan tenure
- Repayment remains predictable and constant for a fixed period
- Economic fluctuations have no impact on the interest rate or EMI
This is well-suited to borrowers who can align with predictable monthly debt outgoings to better manage their finances.
What is a floating personal loan interest rate?
A floating personal loan interest rate is subject to change in line with the lender’s new interest charges. Floating interest rates typically change based on benchmark rates such as the repo rate or the lender’s internal benchmark, which are influenced by broader monetary policy decisions.
Key aspects of a floating personal loan interest rate are:
- Interest rates are subject to change
- Depending on the lender’s policy, either the EMI or the loan tenure may be adjusted when interest rates change.
- A reduction in interest can benefit the borrower, while an increase can hurt
In this structure, the total repayment amount for a personal loan will vary over the tenure.
Fixed vs floating personal loan interest rate comparison
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Feature
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Fixed rate personal loan
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Floating rate personal loan
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Interest stability
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Constant throughout the tenure
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Changes are per lender and/ or economic policies
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EMI
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Predictable EMIs
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Subject to change
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Exposure to interest rate change
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May miss out on potential rate reduction
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High Impact
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Financial Planning
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Ease of budgeting
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Requires financial flexibility
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Understanding these differences helps borrowers evaluate which personal loan interest rate structure suits their financial goals.
For borrowers prioritising convenience and control, personal loan options like FIRSTmoney by IDFC FIRST Bank also offer features such as zero processing fees on select loan amounts and a completely paperless journey, enhancing the overall borrowing experience.
Key factors to consider when choosing between fixed and floating interest rates
While choosing between fixed and floating interest rates in a personal loan, there are some important factors that need to be considered:
- Stability vs. Volatility: With fixed interest rates, the amount that is paid every month (EMI) is fixed throughout the tenure. However, with floating interest rates, the rates may change over a period of time based on market conditions. This may affect your ability to pay the same amount every month.
- Tenure: If the tenure is short, the interest rate may not have a significant impact on the overall interest that is paid. In such cases, floating interest rates may be a good choice. However, if the tenure is long, fixed interest rates could be a better choice.
Wrapping it up
Applicants seeking to borrow must plan their finances properly. Most importantly, selecting a personal loan with floating or fixed interest rates as per their current financial profile, loan tenure, and making an informed decision that aligns well with their financial goals. For borrowers looking for simplicity and control, consider FIRSTmoney personal loan by IDFC FIRST Bank that offers loan amounts up to ?15 lakh with interest rates as low as 9.99% p.a. on a reducing balance basis. You can also foreclose your loan early without any foreclosure charges and save on the interest costs.