finance
prepayment penalty
A prepayment penalty is a fee a lender charges if a borrower pays off all or a large part of a loan before it is due, compensating the lender for lost interest. It is usually stated as a percentage of the balance or a number of months' interest and often applies only in the early years. Federal rules restrict prepayment penalties on many residential loans, and FHA and VA loans do not allow them.
- Exam tip
- FHA and VA loans have no prepayment penalties. A loan that allows payoff without penalty has a "prepayment privilege."
- Example
- A borrower refinances in year two and pays a 2% prepayment penalty on a $300,000 balance, or $6,000.
Related terms & state variants
Sources
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Last verified: 2026-10-23