What exactly is the repayment?
Repayment is the redemption of a loan or the settlement of other debts with a creditor. Repayment is therefore an important concept in the credit system and a key component of many financial transactions with banks, credit institutions or private lenders.
How the repayment of loans works
Anyone who takes out a loan has to pay back the borrowed money at some point, which is called repayment or redemption. With almost every loan, interest is also due; this interest must be paid in addition to the repayment. The same applies to other costs associated with a loan. In practice, this often causes confusion if no distinction is made between repayment, interest and other costs in loan instalments. A debt is repaid when the entire loan plus any interest and other costs is paid back. In the case of a consumer loan, this can be after just a few months, whereas in the case of a construction loan, the repayment period is usually many years or even decades.
What is the difference between repayment and total debt?
Repayment refers to the redemption of the loan amount borrowed and is therefore only a part of the total debt. In return for providing the loan amount and the associated default risk, the lender usually receives an interest portion in addition to the loan amount. The interest is usually calculated as a percentage of the loan amount and added to the loan amount. In some cases, the loan agreement between borrower and lender also regulates other costs, such as processing fees or costs for unscheduled repayment if larger amounts can be repaid unscheduled. In many loan forms, the repayment is paid in the form of a regular installment, which is spread over the duration of the loan. The installment usually consists of the repayment, interest portion and any other costs.
What forms of repayment are there?
There are different ways of repaying a loan amount or a debt. For many loans, such as a personal loan, the financing of a property, a mortgage loan or an investment loan, a repayment plan is drawn up which provides for the regular, usually monthly payment of a loan instalment. However, there are also forms of loans without regular instalments. Basically, the following forms of repayment are distinguished:
Instalment loan: With this type of loan, regular instalments are paid, which include both repayment and interest. The amount of the instalment decreases continuously, since the repayment portion remains the same, but the interest portion decreases during the term due to the continuously decreasing residual debt.
Annuity loans: The annuity loan is frequently used, especially for construction financing. Here, the installment remains at the same high level, so that the redemption portion increases continuously, while the interest amount decreases due to the continuously decreasing residual debt.
Term loan: Unlike the instalment loan or the annuity loan, the loan amount is not paid in regular instalments in the case of a loan with final maturity (term loan). Instead, the repayment of the remaining debt is due on a certain key date.
Bank overdraft: This type of credit is often granted for business accounts, and the overdraft facility for private current accounts is also a current account credit. Interest is charged as long as the loan amount has not been repaid, but the total debt can be repaid at any time in any amount.
Balloon loan: The balloon loan is often used to finance passenger cars, where a large part of the repayment is repaid by a final instalment. With the balloon loan there is a repayment plan, but no regular and constantly high repayment installment.
What happens if there is a disruption in the repayment?
Repayment is a key component of all credit transactions and fundings. If the borrower lacks liquidity, however, repayment may be disrupted. In the case of mortgage loans, for example, this is more often the case if unforeseeable events such as unemployment or illness occur. Since such a loan is repaid over a period of many years, the risk of repayment default is relatively high. If you are unable to service your loan instalment, you should contact the lender as soon as possible. After consultation with the bank, a temporary suspension of the repayment installment for the construction financing can often be agreed upon, this is also called deferral. In this case the due instalments are not waived, but only deferred. Both parties can negotiate a new repayment agreement which is more convenient for the borrower. For example, the duration of the loan can be extended so that the individual loan instalments are reduced. However, this is not only advantageous for the borrower, as a longer term loan usually also increases the sum of interest that has to be paid to the bank, so that the total debt to the bank is higher.
How do the loan term, interest and repayment of the loan influence each other?
As a rule, a high redemption rate and a short credit period reduce the interest rate, while a low repayment rate and a long term of a loan increase the sum of interest paid and thus the total debt - the loan therefore becomes more expensive. In the case of real estate loans and construction financing, the fixed interest rate over a period of several years can also increase the interest rate.