A prepayment penalty is a fee that some lenders charge if you pay off your mortgage early, either through refinancing or making extra payments. Most modern conventional loans do not include prepayment penalties.
Prepayment penalties were more common before the 2008 financial crisis. Today, they are prohibited on most qualified mortgages under federal regulations. However, they can still appear on certain non-qualified mortgage products, jumbo loans, and some adjustable-rate mortgages.
When a prepayment penalty exists, it typically applies during the first 3 to 5 years of the loan. The penalty might be a percentage of the remaining balance (often 2% to 3%) or a set number of months of interest. Some penalties only apply to full payoffs, while others kick in if you pay more than 20% of the balance in a single year.
Before refinancing, always check your current mortgage documents for a prepayment penalty clause. If one exists, factor the penalty cost into your refinance calculations. In some cases, the penalty can wipe out the savings from a lower rate, making the refinance not worthwhile until the penalty period expires.
Refinancing means replacing your current mortgage with a new loan, typically to get a lower interest rate, change the loan term, or access your home equity through a cash-out refinance.
Closing CostsClosing costs are the fees and expenses you pay when finalizing a mortgage, typically ranging from 2% to 5% of the loan amount. They include lender fees, appraisal costs, title insurance, and government recording charges.
PrincipalPrincipal is the original amount of money you borrowed for your mortgage, or the remaining balance you still owe. Each monthly payment reduces the principal by a small amount.
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