Defining a Mortgage Prepayment Penalty

mortgage prepayment penalty is assessed by a lender if you choose to pay your mortgage off before it fully matures. The penalty is assessed because lenders miss out on some anticipated interest to be gained on your loan when you prepay. Depending on how your mortgage is structured, this is either a simple flat fee or an assessment of interest against the loan.

Flat Fee Penalty

You can ask your lender at any time to provide you with a pay-off quote on your mortgage. In a flat fee structure, this quote will include the total principal debt remaining on your loan less any payments made plus a simple fee. 

Interest Assessment

Some lenders develop and maintain a loan structure that penalizes a borrower for paying off a loan too early. The structure is illegal in some states. With this model, the borrower's initial mortgage payments do not go toward the loan principal. Instead, the borrower must pay down the entire mortgage interest in full before the principal is reduced. The result is a very high principal balance for the majority of the length of the loan. If you discover your mortgage is structured in this manner, check the laws of your state to determine if you are entitled to avoid the often illegal penalty.