The prepayment penalty is still alive and kicking. Even after the housing crisis and the start of the Dodd-Frank Act, certain loans still have penalties. Luckily, VA loans are not one of them. You can pay the loan off as early as you want without the threat of a penalty.
The Benefit of Paying the VA Loan Off Early
You might wonder why a borrower would pay a VA loan off early. You have a set payment that you can afford. Why not stick with that payment for the scheduled 360 payments? We have one word for you – interest.
The longer you borrow a bank’s money, the more interest you pay. Since VA loans don’t charge a penalty for paying early, you don’t need to borrow the money for the full term. You can make extra payments as often as you want with VA loans.
You can knock several years and several thousand dollars off your loan with just one extra mortgage payment per year. You can do this by:
- Paying 1/12th of your mortgage payment per month every month
- Making one extra full principal and interest payment per year
- Applying any windfalls to your mortgage (tax refunds, bonuses)
With just one extra mortgage payment per year, you can knock 2 ½ years off your term. Of course, higher payments will knock off even more time.
Other Ways to Save on Interest
Paying your loan off early is a great way to save on interest. But, if you want to stop the accumulation of interest in the first place, try this step.
Make a down payment on the home. Even though VA loans don’t require down payments, it does not mean you can’t make one. The best news is you dictate how much you put down. This differs from FHA loans where you must put down 3.5% to get the loan.
The VA loan allows any type of down payment. If you only want to put 1% down, then go for it. You will not pay interest for the next 30 years on that $1,000. Of course, the more money you put down, the more you save.
What Loans do Charge a Prepayment Penalty?
As a veteran, you are in luck; you do not have to worry about the prepayment penalty. But, what if you use up your benefits and need another loan? You should know the standards of the other available loans out there:
- FHA loans – Just like VA loans, FHA loans do not have a penalty for early payment. They do, however, charge interest for any days left in the installment period. For example, if you pay your loan off on the 1st, but your installment due date is the 15th, you’ll pay interest for those 14 days.
- Conventional loans – These loans often have prepayment penalties. The Dodd-Frank Act limits the penalties to 2% of your loan amount during the first 2 years and 1% for the third year. Beyond the 3 years, there can’t be a penalty.
The Benefit of Paying a Prepayment Penalty
You might wonder why anyone would agree to a prepayment penalty. It can make sense in one situation – when borrowers know they will stay in the home long term. Oftentimes, accepting a prepayment penalty can result in a lower interest rate.
If you know you’ll stay in the home for the long-term, you can save money. A lower interest rate over 30 years can save you a significant amount of money.
Knowing there’s a penalty for paying the loan off early can also help prevent you from refinancing. Borrowers often get anxious to refinance when they hear interest rates drop. Without checking out the real benefit, you might not save as much as you thought. With a penalty in place, you are more likely to stay put.
As a veteran with entitlement, you do not have to worry about prepayment penalties. If you decide to venture out into another loan program, though, you will. Always read the paperwork closely.
Lenders must send you a Loan Estimate within 3 business days. Do not assume it says what the loan officer told you. Read it for yourself. Pay close attention to the fine print. If you do not understand something, ask. You can’t ever be too informed when it comes to the financing for a home.