Are you currently having a loan? It can be of any type – Credit Cards, Policy Loan, Student Loan, Car Loan as long as you are owing money.
And are you keeping watch of the compounding interest rate on those outstanding loans, especially those that charge you 5% and above? If you are not doing so, it’s better to wake up, dig out those accounts and clear as much as possible!
Reason being that Compounding Interest Rate can be both an Angel or a Devil working for you!
Why Such A Serious Note?
Recently I have a chance to meet this Client who is seriously in dilemma. He has comfortably borrowed a few times of a few thousand dollars (taken a policy loan) from his policy over the last two years and thinking that the interest rate is low, he has not taken the efforts to pay back everything.
So what happened was that, this few outstanding thousand dollars plus the magical compounding effect of the interest rate over the years had increased the loan to over $10,000 – and it’s going beyond his means to service the loan and his monthly premium. Do remember that when you take out a policy loan, you still will need service the monthly premium for your insurance policy.
So there he was… caught in between terminating a policy (losing nearly $100,000 worth of coverage) to clear off the outstanding loan, get back a small sum and was thinking of getting a new whole life plan that’s covering him only $50,000 – at a higher premium due to current age and longer break-even.
And also, should he have cleared off his loan and continue with his policy to his retirement age and beyond, this current whole life plan would have given him back nearly doubled in terms of surrender cash value as compared to his total premium paid (should he decide to stop the plan later)!
My Advice To Him
Rather than stopping the plan to clear off the loan, he should be paying back and clearing the loan within the next 5 years. It will be tough on him but he should be thinking of the long term because of the rewards he’ll be getting from his current plan.
A new whole life plan would only mean that he is seriously short-changed in terms of critical illness coverage and the amount of premium to be paid will be unfair!
Now, My Advice To You
CPF Website has this interesting loan repayment calculator that you can use to roughly understand how long you need to clear off your loan, based on your current monthly instalment amount and interest rate.
E.g. An outstanding simple loan of $10,000, based on interest rate of 6% with monthly instalment amount of $100 will take you 11.6 years to clear off!
And should you have converted this $100 to a regular savings plan for the similar 11 years (endowment or investment plan), you can be getting back $17,550 (based on average of 5% returns) or $22,417 (based on average of 9% returns). Thanks to Math.com’s Savings Calculator!
And based on the above loan scenario, should you be able to increase the monthly instalment amount from $100 to $200, it will only take you 4.8 years to clear off! Will that extra $100 be an impact on your daily lifestyle? $100 per month is just $25 per week or $3.57 per day! Rather going for that expensive gourmet coffee, how about a simple coffeeshop coffee or those free coffee provided by your company?
So do you see the impact that an outstanding loan can do to your retirement planning or to your current life insurance?
Can you also see the rewards that you can get even just by having that extra money set aside to put into a regular savings plan?
Think about it!