Refinancing Mistakes and Prepayment Penalties

Summary

Mortgage lenders often offer loans with prepayment penalties.

Here is how to work this to your advantage.

Prepayment Penalties

A prepayment penalty is a charge you must pay to the lender if you get rid of their loan too quickly.

The prepayment penalty has a certain time period, such as 6 months or 2 years.

The loan documents come with a formula to determine your prepayment penalty. This can be based on the loan amount, interest rate, or other factors.

Prepayment Types

There are two types of prepayment penalties: hard prepayment penalties and soft prepayment penalties.

A soft prepayment penalty is charged only if a borrower refinances a property, but not if they sell the property.

A hard prepayment penalty is charged if the borrower refinances or sells the property.

Most prepayment penalties are hard prepayment penalties.

Prepayment Advantages

The advantage of a prepayment penalty is that a lender may offer you a lower interest rate or lower closing costs in exchange for it.

If you plan on keeping a property for 5 years than having a 1 year prepayment penalty may be something you can live with.

Often times a “no closing cost” option mortgage comes with a prepayment penalty.

Protect Yourself

Make sure you understand up front what your prepayment penalty will be.

You should know what the term of the penalty is and how much it might end up being.