What are early redemption penalties?

When you are looking to borrow money with a personal loan you should look out for early redemption penalties. This is a fee which is charged for repaying a loan early, usually around two months' interest. The reason for the fee is to compensate the lender for lost interest.

You should be particularly wary of personal loans where the amount of redemption penalty is calculated according to "Rule of 78". This enables lenders to skew payments so that the most of the interest is repaid by the borrower before the most of the capital. This means that borrowers who pay off a loan early will still have a significant amount of capital to repay and will have made disproportionately high interest payments.

However the new Credit Act will outlaw this and will limit the maximum early redemption penalty to just one month's interest.

When shopping around look for providers who offer low interest rates and no early redemption penalties.