Most mortgages do not limit prepayment of your principal, If you would like to pay twice the principal due each month, with the goal of paying off your loan early then you are free to do so without penalty. If rates fall and you’d like to refinance to a better loan after a year or two, you don’t owe anything extra. But some mortgages don’t treat borrowers so kindly. Some mortgages will impose a prepayment penalty on borrowers who try to pay off all or part of the loan balance earlier than scheduled. These penalties can run into thousands of dollars. Prepayment penalties are found often on loans made to borrowers with credit problems but increasingly they’re found on loans offered to borrowers with better credit.
Sometimes borrowers with good credit ratings will choose to accept a prepayment penalty in exchange for a discount on the interest rate. If you reasonably expect to stay in the home for at least the five years or so when a prepayment penalty applies then that can be a sound move. But be careful because prepayment penalties are being included in some of the most noxious mortgages being sold today, the loans that all but guarantee a future of sharply rising home payments. Avoid those loans called “option ARMs” and be on the lookout for prepayment penalties in any other type of loan. If you accept a penalty then you should be well-paid for it with a lower interest rate.
