 Dealing
with prepayment penalties
|  Dear
Dr. Don,
I have a first mortgage with an interest rate of
7.25 percent. The prepayment penalty for the first three years is
$11,558. We are looking into refinancing at a fixed interest rate
of 5.5 percent for 30 years. Will the savings of the new interest
rate offset paying the prepayment penalty? -- Gabriella Goodrate
 Dear
Gabriella,
How long do you plan to be in the house? Besides the prepayment
penalty, you also have to pay closing costs on
the refinancing that, on a first mortgage, will be several thousand
dollars. Bankrate's
2003 survey of closing costs averaged $3,350 for an $180,000
loan.
You can use Bankrate's refinancing
calculator to estimate how long it will take you to recoup the
prepayment penalty and the closing costs based on the lower monthly
payment. Just enter the prepayment penalty as an "other"
cost.
You didn't give me the particulars of how long until
the prepayment penalty expires or the size of your mortgage, but
the longer you plan to be in the house, the easier it is to justify
paying the prepayment penalty and refinancing the mortgage.
Dear
Dr. Don,
A year ago I refinanced my home with a prepayment penalty that stated
I would pay a prepayment charge equal to six months advance interest
on the amount prepaid in excess of 20 percent of the original principal
balance under this notice. I'm considering selling my home. Will
this hurt me, and how much will I have to pay them? My loan balance
is $249,000.
Please reply soon. -- Betty Blockade
Dear
Betty,
Check your loan documents to make sure that the prepayment penalty
is due if you sell your home. Sometimes the prepayment penalty only
protects the lender against you refinancing and isn't applicable
when you sell your home.
If you are subject to the penalty, you can estimate its size by
multiplying the original loan balance by 80 percent and then multiplying
that number by half the interest rate on the loan.
For example, for a $250,000 loan at a mortgage rate of 6 percent,
the penalty would be: 0.8 x $250,000 x 0.03 = $6,000.
Don't be shy about talking to your lender and asking him to provide
you with a calculation of the prepayment penalty and whether this
penalty is applicable if you sell your home.
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