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A penalty imposed on a borrower for repaying the loan before its due date. (In the case of a mortgage, this applies when there is not a prepayment clause in the mortgage note to offset the penalty.)
Most lenders allow you to prepay the outstanding balance of a loan at any time without a fee, but some lenders charge a prepayment penalty, often about 2% of the amount you borrowed.
If your loan agreement doesn't have a prepayment clause, which excludes a fee for early termination, the penalty may apply.
Many states prohibit prepayment fees, and they're not allowed on any mortgage loans purchased by Fannie Mae or Freddie Mac. But they are allowed in other states, and lenders may offer a lower rate on loans with prepayment penalties because they are locking in their long-term profit.
Similarly lenders who offer to waive closing costs and points when you refinance may impose a penalty if you pay off the loan within the first few years. But if you're not planning to move, this refinancing deal could save you money.
- Browse Related Terms: Adjustable-Rate Mortgage (ARM), balloon mortgage, Ceiling, Co-maker, Fixed Rate Loan, fixed-rate mortgage, Home Equity Loan, Hybrid mortgage, Interest-only mortgage, Loan note, Negative amortization, Payoff, Payoff statement, Prepayment penalty, Principal balance, Refinancing, Rule of 78, Usury
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Extra fees that may be due if you pay off your loan early by refinancing the loan or by selling the home. The penalty is usually limited to the first 3 to 5 years of the loan’s term. If your loan includes a prepayment penalty, make sure you understand the cost. Compare the length of the prepayment penalty period with the first adjustment period of the ARM to see if refinancing is cost-effective before the loan first adjusts. Some loans may have a prepayment penalty even if you make a partial prepayment. Ask the lender for a loan without a prepayment penalty and the cost of that loan.
- Browse Related Terms: "Bait-and-switch" schemes, Alt-A Mortgages, Balloon Payment, cash-out refinancing, Collections, Delinquency, Home improvement scams, Loan flip, Loan modification, Mortgage Modification, Prepayment penalty, Prime, Prime Mortgages, Refinance, Subprime, Subprime Mortgages
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