loans
Flat vs Reducing Interest Rate: What a Flat Rate Really Costs
By Himanshu Kumar Gupta · · 5 min read
A 10% flat rate on a 3-year loan costs the same as about 17.9% on a reducing balance. On a ₹5 lakh loan, you pay ₹1,50,000 in interest instead of ₹80,809.
The difference in one line
- Flat rate: interest is charged on the full loan amount for the whole tenure, even as you repay it.
- Reducing rate: interest is charged only on what you still owe. As you repay, interest falls.
Home loans and most bank loans use reducing rates. Flat rates often show up in consumer durable loans, some personal loans and some vehicle loans.
Worked example
₹5,00,000 for 3 years:
| 10% flat | 10% reducing | |
|---|---|---|
| Total interest | ₹1,50,000 | ₹80,809 |
| EMI | ₹18,056 | ₹16,134 |
| Total repaid | ₹6,50,000 | ₹5,80,809 |
Flat interest = loan × rate × years = ₹5,00,000 × 10% × 3 = ₹1,50,000. The EMI is the loan plus that interest, divided by 36 months.
You pay ₹69,191 more on the flat rate, because you pay interest on money you have already returned.
Flat to reducing conversion table
| Flat rate | 1-year loan | 3-year loan | 5-year loan |
|---|---|---|---|
| 8% flat | 14.5% | 14.5% | 14.1% |
| 10% flat | 18.0% | 17.9% | 17.3% |
| 12% flat | 21.5% | 21.2% | 20.3% |
| 14% flat | 24.9% | 24.4% | 23.2% |
The reducing equivalent is about 1.7 to 1.8 times the flat rate in this table. The multiple dips a little for longer loans, but the extra interest in rupees keeps growing.
How the conversion works
The reducing rate is the rate at which a normal EMI equals the flat-rate EMI. For the example above, that means finding the rate at which a ₹5 lakh, 3-year loan has an EMI of ₹18,056. There is no simple formula, so calculators search for it step by step.
A small loan example
A ₹50,000 gadget loan at 12% flat for 1 year costs ₹6,000 in interest. The EMI is ₹4,667. That is the same as about 21.5% on a reducing balance.
Before you sign a flat-rate loan
Some flat-rate loans fix the full interest at the start. Prepaying such a loan may save you little. Ask how prepayment is handled before you sign. Also ask for the total amount you will repay, including fees. Dividing that by the loan amount shows the true cost at a glance.
How to protect yourself
- Ask for the reducing rate or APR. Lenders should be able to give you the annual percentage rate.
- Compare EMIs, not headline rates. For the same loan and tenure, the lower EMI is the cheaper loan.
- Watch "no-cost" offers. Check whether processing fees or a higher price hide the interest.
Questions to ask the lender
1. Is the quoted rate flat or reducing?
2. What is the EMI, and how many EMIs are there?
3. What is the total amount I will repay, including fees?
4. What does it cost to close the loan early?
The answers let you compare any two offers on equal terms.
Convert any rate
Enter a flat rate and tenure in the flat vs reducing rate calculator. Then check the EMI at the reducing rate with the EMI calculator. For how EMIs are built, read how EMI is calculated.
Frequently asked questions
- What is 10% flat rate in reducing rate?
- About 17.9% for a 3-year loan and 17.3% for a 5-year loan.
- Which is better, flat or reducing rate?
- At the same quoted number, a reducing rate is always cheaper. Compare loans by the reducing rate or the EMI.