Precomputed Interest

Precomputed interest refers to a method of loan structuring in which the total amount of interest for the entire loan term is calculated at the outset and added to the repayment schedule. Unlike simple interest loans, where interest accrues on the declining balance and can be reduced by early repayment, precomputed interest requires borrowers to pay the full calculated interest even if they pay off the loan early.

This method was more common in older auto loans and personal loans but is less frequent today due to consumer protection regulations. Still, some lenders use it in certain markets.

For borrowers, precomputed interest can be disadvantageous because it eliminates the savings typically associated with paying down loans faster. Even if the borrower refinances or pays off the balance early, the lender is still entitled to the originally calculated interest.

Lenders, on the other hand, benefit from precomputed interest because it ensures revenue regardless of borrower behavior. For consumers, understanding whether a loan uses precomputed interest is vital before signing, as it directly affects total costs and repayment flexibility.

Modern disclosure laws require lenders to clearly state interest calculation methods, but borrowers should remain vigilant. Recognizing the implications of precomputed interest highlights the importance of comparing loan structures, not just rates, when making financing decisions.