WHAT IS A PRE-PAYMENT PRIVILEGES

by Shannon Babcock

Browne Mortgage Team Aug 16

When it comes to managing your mortgage, it’s essential to know the ins and outs of penalties and prepayment options that can impact your financial journey. Here are some key points to consider:

1. Your Payment Power:

When you are paying off your mortgage early it’s essential to understand the penalties involved. Many lenders allow a principal payment of up to 20% each year on your original mortgage balance.

With a variable rate mortgage, you’ll typically only face a 3-month interest penalty or the Interest Rate Differential. You might be considering which option will save you more money; let’s calculate the difference.

2. Calculating Penalties:

Interest Rate Differential (IRD) penalties can vary based on your mortgage size and rate changes. To calculate IRD, lenders compare your current rate with the posted rate for the remaining term.

IRD Penalty = (Your Mortgage Rate − Current Mortgage Rate) × Remaining Mortgage Balance × Remaining Term (in years or months)

Example:

outstanding mortgage balance: $500,000
current interest rate: 6%
number of months left in term: 36 months left in a 5-year term
the current posted interest rate for a mortgage with a 36-month term offered by your lender: 4%
(6% − 4%) × $500,000 × Remaining Term (3 years) = $30,000.

The approximate fees are:

amount equal to 3 months’ interest on what you still owe: $7500
IRD: $30,000

If you have a $500,000 mortgage at 6% with 36 months left in a 5-year term, an IRD penalty could amount to $30,000.

Applying a 20% prepayment can save you money as it reduces your principal faster.

Example:

Outstanding mortgage balance: $500,000 (ORIGINAL MORTGAGE BALANCE = $550,000, 20% prepayment allowance = $110,000)
Current interest rate: 6%
Number of months left in term: 36 months left in a 5-year term
Current posted interest rate with a 36-month term offered by your lender: 4%
(6% − 4%) × $390,000 × Remaining Term (3 years) = $23,400

By making a 20% prepayment before the mortgage payout, nearly $7,000 can be saved. Utilizing funds from family or a line of credit will result in significant savings.

Paying off your mortgage is a significant financial milestone, but the journey doesn’t have to be daunting. Remember to check your mortgage’s terms and explore all available options to reduce your debt efficiently.

Thank you for entrusting us with your mortgage needs. If you have questions or need personalized advice, don’t hesitate to reach out. Your financial goals are our priority.

WHAT IS A PRE-PAYMENT PRIVILEGES (brownemortgage.com)