Even if you have a prepayment penalty, you may pay up to 20% of your principal balance in any one year with no penalty.
A prepayment penalty is a fee that you will pay your lender if you pay off your loan within a specified time frame. The time frame can be as short as five months or as long as five years from the date you obtain the loan. The penalty can range from 1.00% of your loan balance up to 5.00%. Some penalties are flat—2% of the loan balance for the first three years; others decline over time—5% in year one, 4% in year two, 3% in year three, and so on.
Generally, lenders will not waive the prepayment penalty for a refinance, even if you are going back to the same lender for the refi. If you are offered a loan with a prepayment penalty, it is very important that you understand the terms of the agreement and its implications
These loans are popular because they generally have some combination of lower fees and interest rate than a loan with no penalty. You may want to consider a loan with a prepayment penalty if you are reasonably certain you will not be selling your property during the term of the prepayment penalty. However, if interest rates drop and you want to refinance into a better loan, refinancing will probably be prohibitively expensive when you have to pay the penalty. Having the prepayment penalty could cause you to miss an opportunity to have a lower interest rate for the life of your loan.
Murphy’s Law is often operative with prepayment penalties—especially for those who are absolutely certain that they will not be selling their home or refinancing. A sudden relocation, a once-in-a-lifetime deal on another house, unexpected medical expenses, a death or divorce: these are all circumstances that can mandate the sale of your house or a refinance and trigger the penalty.
