The coronavirus pandemic has significantly impacted the personal finances of millions of Americans. Many people, including homeowners, have lost their jobs and have used emergency savings accounts to stay afloat.
While the pandemic created personal finance problems for many, it did lead to one benefit: historic low mortgage interest rates. As of Feb. 11, the average 30-year fixed-rate loan was 2.73% and the average 15-year fixed-rate mortgage is 2.19%.
Considering this, it could mean now is a great time to refinance your mortgage loan to a lower interest rate, but do pay attention to the type of prepayment penalties tied to your home loan.
If you’re researching whether paying off your mortgage via a mortgage refinance matches your financial goals, you can use Credible as a refinance guide to compare refinance rates and lenders without impacting your credit score.
Are there penalties for paying a mortgage early?
According to the Consumer Financial Protection Bureau, lenders sometimes charge a fee for paying off your mortgage early. You may even face a fee if you pay off a significant portion of your loan balance within a short time.
The prepayment penalty depends on your lender agreement. Some mortgage lenders charge a percentage of any remaining loan balance, while other lenders charge the total interest for several months. Still, other lenders charge a flat-rate fee. The purpose of a prepayment penalty is to protect the lender against loss of interest.
If you're ready to move forward with a mortgage refinance, you can visit Credible to discover the best mortgage refinance rates available today. Plug your information into their free tools to see your new estimated monthly payments with your new loan term.
Types of mortgage prepayment penalties
There are two types of prepayment penalties:
- Soft prepayment penalties
- Hard prepayment penalties
1. Soft prepayment penalties
A soft prepayment penalty only applies to refinanced mortgages. You may sell your home anytime you want with no penalty, but if you refinance your loan within the first three years, you’ll incur a penalty.
2. Hard prepayment penalties
A hard prepayment penalty has stricter requirements. If you refinance your home or sell your home within three years, you’d incur a penalty. Further, with a hard prepay, if you pay more than 20% of your mortgage off in any given year, you could also face a prepayment penalty.
As an example: If you decided to refinance your mortgage of $250,000 two years after signing the home loan, and your lender charges 2% on the remaining loan balance, you would owe your original lender $7,500.
Have questions about prepayment penalties? Visit Credible to get in touch with experienced loan officers and get your mortgage questions answered.
Who pays mortgage prepayment penalty fees?
Most prepayment penalties apply to borrowers who pay off their mortgage loan within a set number of years (typically within five years). You may have to pay the prepayment penalty if you sell your home, refinance your loan, or pay the loan balance off in cash within the number of years determined in your contract.
Generally, prepayment penalties won’t apply if you’re making extra payments to the loan principal, but you should always ask your lender to specify the terms of your agreement. Your mortgage lender is required, by law, to disclose any of these fees upfront. They cannot charge a prepayment penalty without your knowledge.
Borrowers who took out home loans before 2014 may have different prepayment rules because the Consumer Protection Bureau passed the Dodd-Frank Wall Street Reform and Consumer Protection Act in January 2014 in response to the 2008 financial crisis. The act introduced laws limiting how prepayment penalties could apply.
If you’re ready to refinance, use an online mortgage calculator to compare potentially lower interest rates and determine your new monthly payments.
How can I avoid a prepayment penalty on my mortgage?
There are several ways you can avoid mortgage prepayment penalties.
- Research mortgage lenders
- Ask your mortgage lender
- Read the fine print
- Take out an FHA loan
- Take out a VA loan
1. Research mortgage lenders
All mortgage lenders are required to disclose information about any prepayment penalties they charge before you accept a mortgage loan. If you don’t want to pay a prepayment fee, you can always switch to a different lender.
Use Credible's free online tool to research different mortgage refinance lenders and see what your loan options are.
2. Ask your mortgage lender
As you’re researching different lenders for your loan, make sure you ask about prepayment penalties. Ask your lender to explain how much they charge and for how long the fee applies.
3. Read the fine print
Your mortgage lender must offer an alternative to a loan with a prepayment penalty. Some lenders may entice you with a lower interest rate, but they must provide a good-faith alternative with no prepayment penalty. Make sure you understand what type of penalties apply to your home loan and follow the rules.
4. Take out an FHA loan
Mortgage lenders cannot charge a prepayment penalty on single-family FHA loans. Because FHA loans target low to moderate-income borrowers, they offer benefits to make borrowing enticing. Some of these benefits include a lower down payment, lower minimum credit score, and no prepayment penalty.
5. Take out a VA loan
VA loans are exempt from prepayment penalties as well.
Ready to refinance? Visit an online mortgage broker like Credible to compare your mortgage refinance options.
If you still have questions or aren't sure if refinancing is the right move, consider reaching out to a financial advisor for help. Credible's experts can also help you find a suitable loan option and allow you to see up-to-date mortgage rates so you'll save money and time.