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How to save on Mortgage Penalities (hypotheque)

Sometimes it’s even worse

The normal amount of penalty for the prepayment of a mortgage is the higher of: Three months interest or the difference between the old loan rate and current loan rates, for the remainder of the loan period.

YET…there are frequently other circumstances.

Certain lenders (even the large financial institutions) will alternatetively choose to calculate the difference between the two rates for the end of the term of the loan in a rather interesting way. They decide to use the posted rate, usually the highest mortgage rate rather than the discounted rate. This is why you should always ask your lender for a penalty payment estimate.

(NOTE: The importance of this knowledge is that you will be aware of how important it is to choose a good lender. If you are working with an experienced mortgage broker, he will assure your loan is placed with a lender who will use the rate that is most advantageous to you.)

There are different ways of calculating the penalty, depending upon the product:

There are different kinds of loan products, and each of them has its own sort of penalty:

· Open Mortgage Loan: this is the only type of loan that does not have a penalty for pre- payment. The different types of “line of credit” mortgages are frequently open mortgages.
· Fixed closed mortgage loan: As a rule, the higher of either three months interest or the differential between the loan rate and the market rate, for the balance of the term of the loan.
· Fixed closed long term mortgage: Home loans that have maturities of over 15 years
o For the initial five years of the loan period, is the higher of either three months interest or the difference between the original rate and the current rate, for the balance of the loan period.
o After five years, it is only three months interest.
· Variable closed mortgage loan: Normally, three months interest but there are some lenders who only charge 2 months interest and yet, there are also others that insist upon 6 months interest as a penalty.
· Mortgage loan “5 in 1”: This kind of mortgage is offered with certain lenders and the penalty is typically 6 months interest.

Reimbursement of cash rebate

Certain mortgage loans include a cash rebate. Of course, the rate will be higher and you have to reimburse the amount of the cash rebate equal to the number of months between the time you break the mortgage contract and the end of the mortgage term.

Example: Your home loan included a cash rebate of 4% of your mortgage for $200,000, or $8,000. If you pay off the mortgage after 30 months (instead of the 60 months for a 5 year mortgage), you must repay a certain portion of this cash rebate. In this case, it is calculated at 31/60th of the whole amount, which represents the 31 months difference between the 30th payment and the 60th payment. Therefore, $8,000 X 31, ÷ 60 = $4,133.33, which will be the amount of the reimbursement of the cash rebate.

Yes, the reimbursement of the cash back is added to the penalty, which can very drastically increase the total penalty.

You may ask why there is an early payment penalty in the first place.

Most mortgage lenders sell the mortgages they generate in what is called the “secondary market”. Groups of home loans are bundled together into groups of $100 million to $500 million and sold off to investors, who have the hopesof earning their return for the entire life of the loans. The lending institution still maintains the administration of the loan.

When a mortgage contract is paid off prior to the end of the term (even if it is only a question of a few weeks before the end of the term), the lender has to administer the changes to the contract and repay the investors who have purchased the bundle of mortgages for the future income which they will now no longer receive because the loan has been paid off. Extra work, therefore charges and a penalty

There is another reason for these penalties and charges. Lenders don’t like to lose clients, so they will make it difficult for you to walk away from your loan.