Pre-Payment Privileges

First-time Home Buyer Knowledge Base

Are you determined to get out of debt as fast as possible? Then inclusion of a pre-payment privilege clause will be very important to you.

When a closed mortgage includes a clause that allows you to make partial payments against the principle without incurring any penalties, you have prepayment privileges. How these privileges are extended differ from lender to lender.

Types of Pre-Payment Privileges

Most lenders are willing to allow you to pay from 10 to 20% of the principle off annually. This partial pre-payment privilege must be considered when selecting one of the following options.

Increased Payment Option

While almost all lending institutions will allow you to increase the amount of your mortgage payment, some lenders only allow you to do so once a term. Others allow increases annually, and others allow increases as frequently as you desire to make them.

Any increase that the lender approves will go toward reducing the principle balance, which affects a reduction in the total interest you pay, and accelerates your amortization schedule so your loan is paid off sooner.

Additional Payment Option

This is another option that many lenders will allow. Some home owners “double-up” on payments. Not only does this cancel one principle payment, it applies the interest that would have been charged that month to principle. If the lender has limited your prepayment privileges to only 10% of the principle, your ability to double up may be limited to only one payment per year. At 20%, you may be able to double up on slightly more than three payments.

Lump Sum Payment Option

Rather than increasing the monthly payment or doubling up on payments, a lump sum payment is common when a source of extra income becomes available, such as an inheritance or a year-end bonus. In this case, the prepayment privileges allowed by the lender will control how large the lump sum payment can be. 25% per year of the original mortgage amount is usually the ceiling in Canada.

Each lender is different so speaking with a mortgage broker who understands the legal language can be helpful in fitting you with the right prepayment privileges.

Shortened Amortization Option

Before you acquire a mortgage, you have to choose the term and amortization. The term may be anywhere from six months to 10 years, while the amortization is typically 20, 25, 30 or even 35 years. Each time term expires, you renegotiate your interest rate and the amortization period.

This gives you the opportunity to shorten the length of time remaining on your mortgage. For example, if you have paid 5 years of an original loan with a 35 year amortization, you may be able to negotiate your amortization down from 30 years remaining to 25 or 20 years. Your financial ability to handle the increased payments would be the limiting factor.

Most people don’t realize that the reason a loan is amortized is so the lender can establish what your mortgage payment is. If you can afford a higher payment, you can shave years off your mortgage by agreeing to pay more and amortize the loan for a shorter time frame.

It’s logical to re-evaluate your amortization time frame every time a term comes up for renewal. A GMC mortgage broker is the logical person to turn to. He or she will analyze your particulars and help you either negotiate the best terms with your current lender, or find another lender who is prepared to give you the terms you desire.