Loans and Credit: How You Repay Changes What You Pay

1.The Three Elements of a Loan: Principal, Rate, and Term

A loan is a contract in which you pay interest in return for using money now. It is the time value of money from Lesson 1 seen from the borrower's side. The basic elements that set a loan's cost are the principal (the amount borrowed), the annual interest rate, and the repayment period. Add when and how much of the principal you repay, that is, the repayment method, and you get the interest you actually pay.

Loan rates are usually stated as annual rates, but you repay monthly. This lesson and the site's loan calculator compute the monthly rate as the annual rate ÷ 12, and each month's interest is the principal remaining at the start of that month multiplied by the monthly rate. Real lenders' calculations can differ slightly, for example by counting days, so confirm exact amounts with your contract and repayment schedule. Results are rounded to the nearest won.

2.Three Repayment Methods

With interest-only repayment (principal repaid at the end), you pay just the interest during the term and repay the whole principal in the final month. The principal never shrinks, so the interest is the same every month, and total interest is the largest of the three. With equal principal repayments, you divide the principal equally over the term, repay that portion each month, and add that month's interest. The principal shrinks quickly, so the interest falls every month: the first payment is the largest and payments get smaller over time.

With equal monthly payments (principal and interest), you pay the same combined amount of principal and interest every month. Early on, interest makes up a large share of each payment, and the principal's share grows over time. The fixed amount makes budgeting (Lesson 3) easy, but the principal shrinks more slowly than with equal principal repayments, so total interest is a little higher.

3.Comparing Them on One Hypothetical Loan

As an example, assume you borrow 12,000,000 won at 6% a year for 12 months, and let's calculate all three methods. The monthly rate is 6% ÷ 12 = 0.5%. All amounts are rounded to the nearest won, and the total interest for equal monthly payments is the rounded monthly payment × 12 minus the principal (before rounding it is about 393,566 won, and real repayment schedules settle the leftover rounding difference in the final payment, so it can differ by a few won).

With the same principal and rate, total interest still ranges from 390,000 won to 720,000 won. The difference comes from how quickly the principal shrinks. But the method with the least total interest is not better for everyone. Equal principal repayments are heavy at the start, and interest-only requires a large sum in the final month. Look at what you can afford each month and at your cash flow together.

4.Look at the Total Cost, Not Just the Rate

If you compare loans only by the stated annual rate, you can miss the real cost, because there may be costs beyond interest: an arrangement fee when you take out the loan, a guarantee fee, or an early repayment fee if you pay it off early. The principle is simple: for the same principal and term, compare the total cost of interest plus all fees. If the lender provides a cost measure that already includes fees, check that too.

If you might repay the principal earlier than planned, the early repayment fee terms matter especially. Fee rules differ by product, so confirm the terms in writing before signing.

5.Fixed vs. Variable Rates

With a fixed rate, the rate does not change for the agreed period; with a variable rate, the rate is reset at regular intervals based on a benchmark market rate. A fixed rate has the advantage that you know your payments in advance; with a variable rate, the burden falls if market rates drop but rises if they go up. Which is better depends on future rates, and nobody knows future rates for certain.

So when considering a variable rate, first calculate "could I handle it if rates went up?" As an example, assume you borrowed 100,000,000 won interest-only and the rate rises 1 percentage point, from 4% to 5% a year: monthly interest goes from 100,000,000 × 0.04 ÷ 12 ≈ 333,333 won to 100,000,000 × 0.05 ÷ 12 ≈ 416,667 won, an increase of about 83,333 won (rounded to the nearest won). Checking in advance whether that amount fits in your budget is risk management.

6.The General Principles of Credit Scores

A credit score is what lenders use to gauge how likely you are to repay as promised. In Korea, personal credit rating companies assign scores from 1 to 1,000. The score can affect whether you can borrow and at what rate. The detailed methods and the weight of each factor differ by rating company, but the broad principles of what they look at are similar.

• Late payment history: whether you paid on the promised date is the most basic factor; use automatic payments so you never miss a due date
• Debt level: how much debt you have relative to your income and credit limits
• Length of credit history: whether a long record of reliable borrowing has built up
• Types of credit: what kinds of loans and cards you use and how you use them
• Treat any offer to "raise your score instantly" in exchange for money or personal information as a likely scam (Lesson 9)