Prepayment Penalties: Important Information for Buyers and Sellers

By
Mortgage and Lending with Your Tampa Bay Mortgage Source

CalculatorSome mortgage notes contain a prepayment clause. What is it? This s a clause in the mortgage that requires that the borrower pay a prepayment penalty against the unearned portion of the interest for any payment made ahead of schedule.

Lenders are forward thinkers. When a lender writes a loan, if they think the borrower will likely pay the loan off early, there is a heavy chance there could be a prepayment penalty on the loan.

In the past couple years, during the hot subprime market craze, we have seen many subprime lenders putting a prepayment penalty on their loans. For example a lender may offer a borrower a 2-year fixed rate mortgage, however there may be a prepayment penalty if they pay it off before 2 years. Typically it is found in the subprime mortgage market where the lender knows the borrower has no other options.  The problem comes now when the values in homes are not rising at the same rate of appreciation they were a year ago. Now, when those same subprime borrowers are trying to refinance out of their adjustable ARM's, they are loosing equity when trying to buy out their prepayment penalties.

On the seller's side, this is also a problem. Sellers who have a prepayment penalty on their loan now have to sell the home for enough to cover their penalties at closing.

From a REALTOR's prospective, it is always important to ask sellers if they have a prepayment clause in their mortgage to prevent troubles when it comes to closing. If a seller doesn't disclose this information upfront, even though it may be because they didn't remember, they can have a hard time understanding why they are getting less money back then originally estimated on their NET sheets.

An important fact about prepayment penalties is lenders may not charge them on mortgage loans insured or guaranteed by the federal government or on loans which will be sold to Fannie Mae or Freddie Mac (Conventional Loans).

My best advice:

For home buyers in Tampa, Hillsborough County, Florida or any city in the U.S.: Be sure to ask your mortgage provider if you loan has prepayment penalty. If they say "yes", get a second opinion. This penalty could give you major pain down the road.

For home sellers: Check your mortgage document, specifically your NOTE, to see if you have a prepayment penalty. Make sure you figure this into your mortgage payoff in the beginning.

For REALTORS: Make it a point to ask your sellers if they have a prepayment penalty. If they are unsure, ask them to dig out their mortgage documents or order a payoff right away. You don't want to get to the closing table with your sellers and deal with this issue.

If you have a question about your current mortgage or a mortgage you are considering taking, feel free to email me at LRoss@AmeriFirst.com for a complimentary mortgage review.

~Read more about Prepayment Penalties on My Tampa Bay Mortgage Blog

Comments (17)

Amanda Bowser
Equity Plus, Inc. - Smyrna, DE
Mortgage Officer Equity Plus, Inc

Leah,

On that note, there is also hard and soft prepayment penalties. A hard prepayment penalty means you have to pay the penalty regardless of why you are paying the loan off early. A soft prepayment penalty usually allows you to pay it off early, without penalties, if you sold the house.

Amanda

Jun 12, 2007 01:37 PM
Leah Ross
Your Tampa Bay Mortgage Source - Tampa, FL
Tampa, Florida Mortgage

Great comment Amanda! Perhaps reason for a follow-up blog!!

Jun 12, 2007 01:41 PM
Susie Roscoe
Signature Realty Associates - Brandon, FL
Real Estate Specialist | Brandon, FL
Excellent Post!!  I am always looking for more easily accesible "notes" on mortgage information for my clients.  You're the professional but I enjoy the education you continue to offer!!
Jun 12, 2007 01:59 PM
Jason Price
Mortgage Financial Group, Inc (NMLS 219650) - Tavares, FL
The Mortgage Rider

Amanda brought up the point I was going to make.  A soft preayment penalty only hurts the borrower who is refinancing.

Also, it was not just the sub-prime market that placed PPP.  The Alt-A market is known for them as well.

PPP can range from 6 months interest to a percentage of the outstanding balance... and some lenders have a decreasing percentage (eg. 3% the 1st year, 2% the 2nd year, and 1% the 3rd year).

Jun 12, 2007 02:11 PM
Marie Kletke
iNet Realty - Long Beach, CA
Broker - Long Beach Real Estate
Also remember that government loans have no prepayment penalty clause.  There was a time when the investors of FNMA and FHMLC wanted to put prepayment clauses into their loans.  By the way, FNMA and FHMLC do not buy loans.  They are a more of a monitoring agency.  Lika an aunt who keeps every one in line.
Jun 12, 2007 02:34 PM
Leah Ross
Your Tampa Bay Mortgage Source - Tampa, FL
Tampa, Florida Mortgage

Susie, I am glad I can provide some mortgage insight....my brain is your brain!

Jason, great information to add!   I am thankful for the mortgage comments as it is hard to get it all in!  Thank you!

Marie, thank goodness our government has good qualities too!  Thank you for your addition!

Jun 12, 2007 02:40 PM
Cyndee Haydon
Charles Rutenberg Realty - Clearwater, FL
727-710-8035 Clearwater, Beach Short Sales Luxury Condos &Homes
Leah - another insightful mortgage article - you do a great job explaining all this stuff - ditto with Susie - glad I have you to work with!
Jun 12, 2007 05:08 PM
Katrina Madewell
Charles Rutenberg Rlty- More than 5,000 agents(813) 777-1196 - Tampa, FL
Tampa FL Homes for sale | Tampa Bay - (813) 777-1196
Excellent Post Leah!  Knowing both sides of the coin, the sellers net sheet is SUBSTANTIALLY different before and AFTER a PPP is tacked on!
Jun 12, 2007 05:58 PM
Leah Ross
Your Tampa Bay Mortgage Source - Tampa, FL
Tampa, Florida Mortgage
Cyndee & Katrina, thanks for the comments and the support!
Jun 15, 2007 03:14 AM
Jack Haydon
Charles Rutenberg Realty - Clearwater Beach, FL
Clearwater Beach Condos - Real Estate Homes for Sale

Leah,

OMG! So true! I hear this so often it makes me sick... Thanks for informing letting everyone of this deal killer...

 Jack

Jun 16, 2007 04:16 PM
Leah Ross
Your Tampa Bay Mortgage Source - Tampa, FL
Tampa, Florida Mortgage
Jack, thank you for the comment, I am happy to provide information for our local homeowners!
Jun 18, 2007 11:07 AM
Anonymous
Matt
I am in the process of selling my house and found out about my prepayment penalty when the title company received the payoff statement from Countrywide.  When I refinanced this loan 2 years ago the broker (Lending Tree) told me that there was only a prepayment penalty if you refinanced.(soft penalty mentioned here)  He said that if I sold the property I would not be subject to a penalty.  Now I find out from Countrywide that the prepayment penalty disclosure I signed at closing had one sentence buried in it that said I would pay a prepayment penalty whether I refinanced or sold the property during the first 36 months.  Do you know of any recourse for this?  Countrywide is unwilling to budge and Lending Tree says that I should have read the paperwork more closely. 
Sep 15, 2007 02:03 AM
#12
Karen Anne Stone
New Home Hunters of Fort Worth and Tarrant County - Fort Worth, TX
Fort Worth Real Estate

Hi Leah:  I have found that many sellers have no clue whatsoever whether or not they have a prepayment penalty.  And it is even less likely that they even know what their note is.

Lenders usually have a two year prepayment penalty because when the loan was originally made, the risk was usually greater for the lender to take the loan in the first place.  So, if the lender takes more of a rish then they usually do, they feel they should be entitled to make at least two-years worth of profit on that same "risky" loan.  It makes sense to me.  Bottom line... when a seller is unsure, get it in writing from the lender.  Thanks for a thought-provoking post, Leah.

Oct 07, 2007 05:56 PM
Karen Anne Stone
New Home Hunters of Fort Worth and Tarrant County - Fort Worth, TX
Fort Worth Real Estate

Also... as far as "refinancing" is concerned.  Unless a lender does not really "re-finance" the loan, but only adjust the payments... and keeps the original first lien intact... a re-financing may actually be the seller in effect... selling his own home back to himself... and in the process paying additional "buyer's" closing costs... because he is "buying" the house as a buyer... from the seller. 

And... he also has typical "seller's" closing costs... because he is "selling" the house as a seller... back to himself as a buyer.  Sounds confusing, I know, but am I making sense, here ? 

By the way, Countrywide has been known to do some things which other lenders are not willing to do.

Matt... that is often one of the problems of working with an on-line lender.  You do not have anyone advising you "in person."  I always suggest to my buyers that they work with a local lender... someone they can meet with in person... and someone who will explain things thoroughly to them... and work in their favor... because this lender wants to work with them, or their friends or family... in the future.

Oct 07, 2007 06:01 PM
Lora Radzevich, Notary Signings Brandon~Riverview~Tampa
True Color Services, LLC - Tampa, FL
Older post but new quesitons regarding pre-payment penalties...
#1-In some case, the verbiage includes there "may" be a pre-payment penalty and then continues with the stipulations. Does that mean that it is something that is negotiable in some way, especially if you choose to refinance with the same lender?
#2- Are there laws/regulations that determine the actual pre-payment penalities or is it at the lender's discretion?
Sitting at the closing table, I have seen many scenarios when it comes to pre-payment penalties. For the most part, I believe the borrower's truly forget what they signed previously and/or didn't actually understand/comprehend because they were more focused on the loan itself. That's been my experience.
Oct 15, 2007 08:12 AM
Anonymous
Cora

I think this is one aspect of lending that clients have a very difficult time understanding. It's one of those things can be easily overlooked when documents are signed at the beginning because it doesn't directly affect the bottom line.

In some ways, it's similar to scholarship organizations that charge you for their services. In actuality you could just go find the scholarships for your self for free. There are many companies out there that don't charge prepayment penalties. And I think they should be applauded for looking out for the clients best interest. Because when it comes time to sell or refinance, a surprise prepayment penalty is never fun.

This is one article that tells you how to avoid prepayment penalties.

Jun 04, 2008 04:46 AM
#16
Anonymous
Cora

I think this is one aspect of lending that clients have a very difficult time understanding. It's one of those things can be easily overlooked when documents are signed at the beginning because it doesn't directly affect the bottom line.

In some ways, it's similar to scholarship organizations that charge you for their services. In actuality you could just go find the scholarships for your self for free. There are many companies out there that don't charge prepayment penalties. And I think they should be applauded for looking out for the clients best interest. Because when it comes time to sell or refinance, a surprise prepayment penalty is never fun.

This is one article that tells you how to avoid prepayment penalties.

Jun 04, 2008 04:46 AM
#17