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Prepayment Penalty
A fee charged if you pay off or refinance a loan before a specified period.
Definition
A prepayment penalty is a clause in the mortgage contract that charges the borrower a fee for paying off the loan early, typically within the first 3 to 5 years. Common structures include a declining percentage of the outstanding balance (e.g., 5-4-3-2-1) or a fixed number of months' interest. Lenders impose prepayment penalties to protect their expected interest income over the loan term. Accepting a prepayment penalty often earns you a lower interest rate. Investors who plan to hold a property long-term can benefit from the rate reduction, while those planning a quick flip or refinance should negotiate for no prepayment penalty.
How This Relates to DSCR Loans
Most DSCR loans include a prepayment penalty, often structured as 5-4-3-2-1 or 3-2-1. Choosing a longer prepayment penalty period typically results in a lower rate.
Related Terms
Interest Rate
The percentage charged by a lender for borrowing money, applied to the outstanding loan balance.
Cash-Out Refinance
Replacing an existing mortgage with a larger one and taking the difference in cash.
Rate and Term Refinance
Replacing an existing mortgage with a new one to get a better rate or different term, without taking cash out.
Rate Lock
A lender's guarantee that a specific interest rate and pricing will be held for a set period.
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