Want to sell your home, but have a fixed mortgage…? BEWARE!
Most lenders charge a penalty on closed mortgages if the debt is paid prior to the maturity of the term. The full cost of the penalty must be outlined in the mortgage document, so make sure you know what you’re getting into before you sign.
The most common penalty is the Greater of Three Months Interest Penalty OR the Interest Rate Differential. Likely, whichever amount is the larger of these two figures will be your penalty.
THREE MONTHS INTEREST PENALTY
If you are paying off your mortgage before the maturity date, most lending institutions charge three months interest penalty (or an interest differential penalty).
Your present mortgage balance is multiplied by your current interest rate and multiplied three.
INTEREST RATE DIFFERENTIAL / LOSS OF INTEREST
The IRD is a compensation charge that may apply if you pay off your mortgage prior to the maturity date, or pay the mortgage principal down beyond the amount of your prepayment privileges.
The IRD is based on:
The amount you are pre-paying
An interest rate that equals the difference between your original mortgage interest rate and the interest rate that the lender can charge today when re-lending the funds for the remaining term of the mortgage.
Most closed fixed-rate mortgages have a prepayment penalty that is the higher of 3-months interest or the IRD. Variable-rate mortgages do not have IRD penalties.
This will usually be the difference between the interest rate on your mortgage contract compared to the rate at which the lending institution can re-lend the money.
If your mortgage has a balance of $125,000 at 9.25%, you have 2 years left to go and the current 2 year mortgage rate is 6.25%. Then the lending institution will probably charge you –
$125,000 X 24 months X 3% (9.25 – 6.25) = $7,266.21
Methods of calculating penalties are as varied as the lenders’ available to you, and not all charges can be avoided, but you can take steps to protect yourself:
· Go to your lender & find out your obligations
· Look at options with a port mortgage or blended rates, especially if upgrading your current home
· Pre Pay your mortgage as much as possible.