Frequently Asked Questions
"What Is A Prepayment Penalty?"
Any prepayment penalty will be stated as a clause in the mortgage contract stating that if a mortgage is paid off within a specified period of time, a penalty will be assessed. The prepayment penalty is often determined by a percentage of the remaining mortgage balance, or a certain number of months’ worth of interest.
All loans allow borrowers to make prepayments of any amount at any time during the term of the loan. Prepayments usually occur in three situations.
- When an amount paid monthly exceeds the regular payment.
- When an existing loan is paid off as part of a refinance.
When an existing loan is paid off as part of a sale.
Most loans allow borrowers to make these prepayments without incurring any
additional costs. Thus, leaving the balance of loans which allow borrowers to make prepayments albeit subjecting themselves to possible prepayment penalties.
1. Prepayment Penalty Periods typically range from one to five years with the most common term being three years. Once this period has expired you will not be assessed a penalty if you prepay the loan.
2. Most lenders allow the borrower to prepay up to 20% of the original loan balance within any consecutive twelve month period (not calendar year) without incurring a penalty.
Prepayment penalty feature are often referred to as “hard” or “soft” penalties. Essentially, a “hard” prepayment penalty will be assessed anytime a prepayment is made which is greater than 20% of the original loan balance including refinances and sales.
A “soft” prepayment penalty allows the borrower to payoff the loan without penalty in the event of the sale of the property. Given a choice, the borrower would be much wiser to choose a “soft’ rather than a “hard” prepayment penalty. However, at Preferred Financial we believe the best choice is probably to select a loan without any type of prepayment penalty.
Questions to Ask:
So then, if you are being offered a loan with a prepayment penalty, you absolutely need to ask if there is a loan you qualify for that does not have a prepayment requirement. Actually, here are a few other questions you should ask:
1. What lender is offering this loan?
2. Can you provide me with a copy of their rate sheet?
3. How much will you be paid if I accept the loan you are proposing?
4. Will I be charged any points for the proposed loan?
5. Will you be paying any of my closing costs with the rebate, if any, you will be receiving?
6. Why did you suggest the loan with the prepayment penalty?