Paying Off a Loan Early? Here's How It Might Backfire

Many Australians are eager to pay off their loans early to eliminate debt and save on interest payments. However, a common concern that arises is whether this decision could inadvertently hurt their credit score. Understanding the implications of early loan repayment is crucial for effective financial management.

Understanding Loan Repayment and Credit Scores

To comprehend how paying off a loan early might affect your credit score, it's essential first to understand the relationship between loans and credit scores. Your credit score is a numerical representation of your creditworthiness and is influenced by several factors, including your payment history, the amount owed, the length of your credit history, new credit, and the types of credit in use. Paying off a loan is generally seen as a positive action; however, there are nuances that could lead to a temporary dip in your score.

Current Interest Rates and Loan Options

In 2026, the Australian loan market offers a diverse range of interest rates and options depending on the type of loan and your credit profile. For personal loans, rates typically range between 6.49% and 12%, while mortgage rates may vary from 3.89% to 5.5% depending on the lender and the borrower's financial situation. Esteb and Co, with its access to 83+ lenders, provides a wide array of loan products catering to different needs, ensuring competitive rates and flexible terms.

Loan Type	Interest Rate Range	Typical Term
Personal Loan	6.49% - 12%	1 - 5 years
Home Loan	3.89% - 5.5%	20 - 30 years
Car Loan	4.5% - 9%	3 - 7 years

Steps to Pay Off a Loan Early Without Hurting Credit

If you decide to pay off a loan early, follow these steps to minimise any potential impact on your credit score:

1. Check Loan Terms: Review your loan agreement for any prepayment penalties or fees. Some loans charge a fee if you pay off the balance early.
2. Consult Your Lender: Contact your lender to understand the exact payoff amount and any implications for your credit score.
3. Maintain Other Credit Lines: Keep other credit accounts open and in good standing to preserve your credit history length and utilisation ratio.
4. Monitor Your Credit Report: After paying off the loan, check your credit report to ensure the loan is marked as paid and closed.

Expert Tips and Considerations

Here are some expert tips to consider when paying off a loan early:

• Diversify Credit Types: Maintaining a mix of credit types (credit cards, personal loans, mortgages) can positively influence your credit score.
• Use Lump Sum Payments Wisely: If you receive a bonus or a tax refund, consider using a portion to pay down your loan principal instead of full repayment, maintaining the account's benefits on your credit profile.
• Plan Finances Ahead: Ensure that paying off a loan early does not deplete your savings or emergency fund, which could lead to financial strain in the future.
• Seek Professional Advice: Consulting with a mortgage broker like Esteb and Co can provide tailored advice and access to more favourable loan terms.

Frequently Asked Questions

1. Can paying off a loan early lower my credit score?
Yes, it can cause a temporary dip due to changes in your credit mix or length of credit history, but overall, it's a positive financial move.

2. Are there penalties for paying off a loan early?
Some loans include prepayment penalties. Always review your loan agreement or consult your lender.

3. How can I mitigate credit score impact when paying off a loan early?
Maintain other credit accounts, avoid closing other lines of credit, and ensure your credit report accurately reflects the loan payoff.

4. Is it better to pay off a loan early or invest the money?
This depends on the interest rate of the loan versus potential investment returns and your financial goals. Consulting with a financial advisor can provide personalised insights.

5. How does early loan repayment affect borrowing capacity?
Generally, it can improve your borrowing capacity as it reduces your debt-to-income ratio, making you more attractive to lenders.

6. Should I pay off my mortgage early?
While paying off your mortgage early can save on interest, consider the impact on your liquidity and whether those funds could be better utilised elsewhere.

7. How long does it take for credit scores to reflect a paid-off loan?
Credit scores typically update within one to two months after a loan is paid off, but this can vary depending on the lender's reporting schedule.