Wednesday, 12 October 2016

Easy ways to Calculate your Loan Interest Payments

Confess – do you really understand how loan interest calculations work? Have you ever had someone sit and explain this to you when you had applied for a loan? Are you confused or even intimidated by loan interest calculations?

Even if you had replied yes to all these questions, worry not. You are not alone. You are, in fact, part of a vast majority of loan applicants who have no clue as to how interest calculations work. In this issue, we will try and shed some light on a topic that, at least in many people's minds, is as complex as rocket science!

Central Bank to the rescue!

  • The Central Bank of the UAE in its Regulations Regarding Bank Loans & Other Services Offered to Individual Customers had clearly explained with formulae on how interest payments should work in Article (6).
  • These formulae are applicable for personal loans, car loans, overdraft facilities and credit card due balances.
  • Banks should also declare upfront their respective interest rates on the above-mentioned credit facilities. This rate will be determined on the basis of the reducing balance of the loan on annual basis.
  • To calculate the first interest amount, the following formula should be used:
           Interest Amount =  Principal x interest rate x loan period (in months) + 1
                                                                2 x 100 x 12
  • The interest amount on the reducing balance of the loan should be computed using the following formula: 
            Interest Amount = Loan balance at the beginning of the month x interest rate
                                                                           100 x 12
  • To summarize, a bank or a finance company shall arrive at the “Interest Amount” and deduct it from the agreed monthly installment, then use the net amount to reduce the loan balance and reach the new balance of the loan at the beginning of the month which would, in turn, be used in the calculation process at the end of the following month.

Still confused? Try online loan calculators!

If, like us, you are lazy to do your own calculations fret not! Most banks have a variety of loan calculators available on their websites that will make these calculations effortless for you. You can not only calculate your monthly installments but you can also calculate your loan eligibility amount. Let us look at a couple of examples:
  • Citibank provides a very simple Loan Calculator. You select the loan amount you wish to borrow, key in the interest rate and the number of installments (in months); the Calculator returns your monthly installment amount.
  • The Personal Loans Calculator from HSBC asks you a few personal and financial details including your monthly salary, the amount of loan you are looking for and your prior debt obligations and then provides you with a decision on whether you are eligible for the loan amount you are seeking. In case you are not eligible for that particular amount, the Calculator offers you a number of alternatives with different time periods.
Understanding interest calculation is not rocket science! It just requires a little effort, a little patience and maybe a couple of helpful tools.

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