How can a mortgage loan with a "no prepayment penalty" clause result in a hefty prepayment penalty for the borrower?
That question was recently asked by a young couple who were refinancing their home mortgage loan. They were asked by the original lender to pay a prepayment penalty of $3,765, even though their mortgage note (contract) clearly stated no such charge would be made.
"It's a problem that's surfacing in an increasing number of refinance cases," according to a mortgage loan officer of a major bank, who would speak only on the condition of anonymity.
"Many people probably pay the charged penalty without question. It's unfair to borrowers and they should be alerted to the possibility of this improper charge."
The most recent case, she said, involved the young couple who needed to refinance their home mortgage loan, originally made by one of the nation's highest-volume mortgage lenders. In planning the refinance loan, the couple carefully calculated all their costs. But when the loan transaction was being closed, they were shocked by the prepayment penalty being charged by the original lender.
They had good reason to expect no such penalty. The mortgage note they originally signed read as follows:
"Borrower's right to prepay . . . I have the right to make payments of principal at any time before they are due. I may make a full prepayment or partial prepayments without paying any prepayment charge."
Despite this clearly understandable language, the borrower was charged six months' interest, over $3,700, as a prepayment penalty. To authorize the charge, the lender pointed to a confusing clause buried in an addendum to the mortgage note. It reads as follows:
"Prepayments in the 12-month period beginning with the date of the note or anniversary date thereof ('Loan Year') borrower shall pay the lender six months advance interest on the amount by which the sum of prepayments made in any such loan year exceeds 20 percent of the original principal amount of the note."
In the "demand schedule" submitted by the original lender, a charge of $3,765 was listed as a prepayment penalty. Below the listed fees and charges was the following statement:
"Prepayment charge if shown will be waived if buyer obtains financing through [name of original lender firm]. The prepayment charge is a contractual fee determined by the note."
In this case, the original lender decided to waive the prepayment penalty when the borrower and refinance loan officer objected. But in other similar cases, with other lenders, the charge was firm and had to be paid if the borrowers were to close their refinance transaction.