Some loan agreements include prepayment penalties (also called prepayment fees).
Prepayment fees state that if the borrower repays the loan before it is due, under certain circumstances the lender can charge an additional fee. These fees are designed to protect lenders who could lose out on the interest payments they would have otherwise been entitled to receive over time had the borrower not repaid early.
Prepayment penalties can be expressed as a fixed dollar amount or as a percentage of the remaining balance due at the time the loan is repaid in full (and ahead of schedule). These provisions can vary widely from lender to lender, with some lenders including prepayment penalties if the loan is repaid within a certain time period. Once that time period has passed, the borrower is free to pay the loan in full without penalty, even if it means the loan will be paid off early.
Borrowers should understand whether their loan agreement includes prepayment penalties and, if so, how and when those fees can be triggered.
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