What is a Pre-Payment Penalty in Real Estate?

What is a pre-payment penalty?

The penalty is a fee charged by a lender on a home mortgage that is put in place to discourage borrowers from paying more than the scheduled monthly payments or completely paying off the remaining balance of the loan before the full term of the loan agreement.

It is good to note that there are few mortgage products out there that have prepayment penalties currently While they are still some, prepayment penalties or more common in mortgages that originated several years ago. It's always wise to confirm that the mortgage you are agreeing to does not come with a pre-payment penalty. There are also may be some homeowners that have been in their homes for several years surprised to learn that their older mortgage has a pre-payment penalty.

The biggest reason for lenders using prepayment penalties is to discourage borrowers from paying off the loan within the first couple of years of origination. This is because mortgage lenders are a business and the purpose of the business is to make money. Mortgage lenders make more money accruing interest paid the longer the homeowner holds the loan.

Types of mortgages that still come with prepayment penalties

Prepayment fees are less common now than they were a few years ago. The Dodd-Frank Act prohibits prepayment penalties on mortgages for current home loans. But any loan older than January 10 of 2014 may still have a pre-payment penalty attached to it.

In addition to loans older than 2014, any non-conforming mortgage that is not sold or insured by Fannie Mae or Freddie Mac is not subject to the Dodd-Frank Act. They also do not apply for FHA, VA, or USDA home loans.

Though prepayment penalties exist, a loan with one is not necessarily horrible. In some cases, a pre-payment penalty may simply be restricted to paying off the loan within the first couple of years of origination. In this case, the homebuyer is free to pay whatever amount of payment they like on their loan after this time.

Avoiding pre-payment penalties

The best way to avoid prepayment penalties is to make sure you are looking out for them when applying for home mortgage loans. If you have a current mortgage that is older or non-conforming and are unsure if you have a pre-payment penalty you can call up your current loan servicer to ask them about it. You can also check the fine print on your monthly mortgage statement or closing documents.

If you learn that your loan has a pre-payment penalty it is a good idea to ask a mortgage professional about this penalty and if there is a possibility to negotiate a lower pre-payment penalty fee with your lender. It is not fun to sell your home and realize that you are subject to this fee.

For more information on real estate in Omaha Nebraska and surrounding areas please contact us.