Settling a Loan Early: the Rule of 78 and What Replaces It in 2027
Summary
Settling a personal loan early saves less than most borrowers expect, because the Rule of 78 front loads interest into the early instalments. Bank Negara Malaysia prohibits both the flat rate and the Rule of 78 for personal financing from 1 January 2027, under the policy document issued on 30 September 2025. Until then, ask which rebate formula your agreement uses before you sign.
Paying off a loan early does not refund interest in proportion to the time saved. How much you actually save depends on a formula buried in the agreement, and in Malaysia that formula has often been the Rule of 78. From 1 January 2027 it is prohibited for personal financing, which makes this a good moment to understand what it does.
What the Rule of 78 does
The name comes from the sum of the months in a year: 12 plus 11 plus 10 and so on down to 1 equals 78. The method allocates interest across instalments in that descending pattern, so the earliest instalments carry the most interest and the last carry the least.
The practical effect is that by the time you are halfway through a loan, you have already been charged well over half of the total interest. Settling at that point returns only the smaller remaining share.
A product disclosure sheet for one Malaysian personal loan illustrates a sixty month facility with RM10,780 of total interest. Settled after thirty six months, the rebate shown is about RM1,767. Two fifths of the term remained, yet the rebate was roughly a sixth of the interest.
How a reducing balance settlement differs
On a reducing balance loan there is no rebate formula to apply. You simply owe the outstanding principal, and interest stops accruing on the day you pay it. What you save tracks what you still owed, which is what most borrowers assume is happening in the first place.
What changes on 1 January 2027
Bank Negara Malaysia issued its Policy Document on Personal Financing, reference BNM/RH/PD 028-130, on 30 September 2025. Most of the document took effect on issuance. A specific group of paragraphs was deferred, and those deferred paragraphs prohibit computing interest or profit on personal financing using a flat rate or the Rule of 78 from 1 January 2027.
A separate reform covers hire purchase. Amendments to the Hire Purchase Act replace the flat rate and the Rule of 78 with the effective interest rate and a reducing balance method for fixed rate hire purchase. The texts of Malaysian legislation are published at lom.agc.gov.my.
What to do if you are borrowing before that date
- Ask whether the rebate on early settlement uses the Rule of 78 or a reducing balance, and get the answer in writing.
- Ask for a worked example at the point you expect to settle, not just the formula.
- Get the settlement figure in writing before paying anything, because it may include charges beyond the outstanding balance.
- If you are choosing between two similar offers and one uses a reducing balance, that is worth more than a small difference in the headline rate when early settlement is likely.
In short
Before 2027, the rebate method is a term you have to check. After it, for personal financing, the question largely disappears.
