Mortgage Prepayment Penalties

One of the warnings that one issues regarding a mortgage loan is to always watch out for a pre-payment penalty clause in your contract. A prepayment penalty is the charge that the lender levies on a borrower for paying off the mortgage before its due date. The paint penalties are not allowed on FHA, VA and FmHA home loans.

The amount of the prepaid penalty may depend from one lender to another as well as from one state to another. They may even vary from one kind of a mortgage loan to another with the same lender. Though some lenders while having the pre-payment penalty clause in the contract will waive this fee if you refinance your mortgage with them or if you’re forced to pay off the loan because you sell your house. This is usually called a provisional prepayment penalty clause and should be declared in the good-faith estimate.

Make sure the mortgage does not have a prepayment penalty clause by reading the truth in lending disclosure clause. A mortgage lender mayforce you to play anywhere from 3% to 6 months interest on your outstanding loan balance. This means that you have to pay 4000 per hundred thousand dollars of principal if you repay the loan early, accounting for 6 months interest at 8%.

How To Know If Home Loan Has Prepayment Penalty

The easiest way to find out if the mortgage has a prepayment penalty is to simply ask the lender. If the loan officer informed you that it does, it is a good idea to keep looking for a mortgage loan that is not.

The federal law demands that the lender reveaal this information in the federal truth in lending disclosure statement which he is supposed to give you soon after submitting your loan application.

You should always verify this fact yourself because sometimes even loan officers are not aware of all the subtle points of a mortgage loan. You should check and double check and scrutinize every last document to make sure that it does not have a prepayment penalty. Also make sure that this clause does not somehow managed to creep into your mortgage just before you sign the final loan documents.

Some mortgages have what is called a soft prepayment penalty which may be wavered at the lender’s discretion if you sell the owner occupied 1 to 4 unit property after you owned the property for at least one year. Soft prepayment penalties are infinitely preferable to hard prepayment and he’s.

Avoid the pre-payment penalty clause in your mortgage even if you were 100% sure that you are not going to pay off the mortgage loan early. We say this because financial situations have a way of changing. Unforeseen circumstances may force you to sell the property or refinance. You may get divorced, lose your job or not be able to avoid moving to another city. For all these reasons which you cannot foresee try and avoid a prepayment penalty in your mortgage.

When Prepayment Penalty Is Unavoidable

In a situation where a prepayment penalty is unavoidable with your mortgage contract make sure that you understand the terms and conditions of this clause. The following information should be carefully understood:

Amount you can pay without penalty

Some lenders will allow you to pay up to 20% of your original loan amount or make an extra payment every year without a pre-payment can be. The more you can pay without a penalty charge the better.

When can you pay without penalty

Certain mortgage lenders will allow you to prepay mortgage after you have completed a certain term on the mortgage on. Other lenders will allow you to make a single large payment or 2 payments on the mortgage. The faster you can prepay without penalty the better.

Duration of the prepayment penalty

Certain loan contracts have the clause that the prepayment penalty expires after certain duration of time. For example you cannot prepay for the 1st 5 years but after that the penalty is no longer applicable. The faster the prepayment penalty banishes the better.

Severity of prepayment penalty

Some repayment penalties diminish in their seriousness with the term of the mortgage. For example you can be penalized 5% within one year of loan origination, 4% in the 2nd year and 3rd percent in the 3rd year and so on. Other mortgages may impose the same penalty as long as the prepayment clauses in effect. Declining prepayment penalties are better.

Mortgage Taxes, Insurance and Prepayment Penalty

In most of the cases a borrower is required to pay monthly property taxes and homeowners insurance to the lender if he takes a home loan for more than 80% of the purchase price of property. Some lenders may also collect 8 to 12 months of property taxes and home insurance payments in advance in an “escrow account” or “impound account reserve”. The lender then pays the tax assessor and your insurance company.

The property taxes and the amount of insurance payment may fluctuate as interest rates go up or down on an annual basis. If the lender collects the property tax and insurance payments in advance it can result in the increase of closing costs of your mortgage.

The amount of money that is collected in reserve account also depends on the time of the year and when your annual tax Bill is due.
Paying the lender for homeowners insurance can usually be avoided by making a down payment for more than 20% of the purchase price of the property. However in this scenario the lender may increase your interest rate by .25% for the option of not setting up an impound account. However, this works out for a lot of people who prefer to pay their own taxes and insurance.

Options for Mortgage Prepayment

While most of the fixed-rate mortgage plans allow the borrower the option of prepaying the mortgage before the entire tenure is over, the lender will often include a clause to safeguard their investment in the scenario of the borrower refinancing with another lender at a lower interest rate. This clause usually requires the borrower to pay the lender and additional payment that is equal to 6 months of interest for more in case he prepays the home loan earlier, typically between 1 to 5 years.