Lowering prepayment penalties can help consumers find emergency money. In the past few years homebuyers were searching for the most cost efficient ways of funding their mortgages. To keep rates low and stabilize profits, banks came up with the prepayment penalty.
Banks use the prepayment penalty for protection
The way they work is that banks would allow the borrower to get lower rates, but in return the buyer would sign a paper stating they must pay a prepayment penalty if their mortgage was paid off between three to five years. Ilyce Glink, publisher of ThinkGlink.com, (see http://www.bankrate.com/finance/mortgages/6-steps-to-a-lower-prepayment-penalty-1.aspx) said, “These contracts were structured to guarantee banks a certain amount of profit. The banks would do a risk calculation or a profit calculation, and the penalty itself was generally set between 2 percent and 4 percent of the loan.”
The sad truth about prepayment penalties is that homebuyers need to sign them, but often times they don’t notice them. Glink added, “The stacks of paperwork homebuyers are required to go through usually disorient them and the cost of prepayment penalties are often ignored.” The problem comes in when the borrower wants to pay off or refinance the loan and the penalty is a reality they have to face.
Ways to handle a prepayment penalty
Although there is now a way to get around a prepayment penalty, there are ways to minimize it. Here are five tips to follow:
- Find the paperwork. The first step consumers need to take is to make sure that they have a prepayment clause. Glink said, “It usually says ‘prepayment disclosure’ or ‘prepayment penalty disclosure’ at the top. There are usually three or four documents you had to initial to indicate that you read them.”
- Read the contract. Most of prepayment penalties have a single fee and others have a sliding scale to watch for. The sliding scale ones will decrease the longer a borrower holds the loan. For example, during the first year of the mortgage a homeowner may have a prepayment penalty of 4%, whereas during the third year it may fall to just 1%. For consumers who are in the time span where a rate is set to decrease, this is a great time to wait for a month to save some emergency money.
- Crunch the numbers. The next thing to do is pull out a calculator and do the math. Sometimes the prepayment penalty is worth the chance to move to a less risky lower-interest loan. Best case scenario, the prepayment penalty is eaten up by overall savings on a new mortgage loan. On the other hand, consumers may have to lower the penalty before they move. Again, it’s best to compare the options mathematically and make a decision based on savings.
- Talk to the loan officer. The next step is to start negotiating the penalty with the loan officer. Glink said, “The first point of contact should be the loan officer. But if you don’t have any luck there, escalate to a manager. They generally have more pull and decision-making power.” Most likely the penalty won’t be ignored altogether, but there is a chance they may cut back the penalty if a homeowner has some track record of consistent payments for a good amount of time.
- Get any changes or amendments in writing. Document all discussions and negotiations with everything from the loan officer’s name to the time the discussion was had. Consumers should always request that the deal is sent in writing. A verbal offer is worth nothing and without proper documentation consumers may be starting from square one.
Banks willing to negotiate
Banks are suffering as a result of the recession and aren’t eager to let go of valuable prepayment penalty fees. Despite the contract, they still may be willing to negotiate. For any consumer looking for emergency money, it can be a good option to try to at least shave a few thousands off of a penalty. It may not sound like much, but it can add up to substantial savings in the end.