Many borrowers take out an FHA loan with the intention to pay it off early. There used to be a penalty for doing so. Is that still the case today?
Luckily, there isn’t any type of consequence for paying your FHA loan off early as long as you obtained it after January 21, 2015. If you did secure your loan prior to this date, you don’t pay a prepayment penalty, per se, but you do pay a little bit more interest. The FHA calls it post-payment interest.
Keep reading to see if post-payment interest may apply to your loan.
What is Post-Payment Interest?
Post-payment interest is money you pay on your FHA loan after you paid it off. It takes care of the interest you would have paid up until the next due date. Here’s how it works:
Let’s say your loan’s due date is the 10th of the month. If you prepay the entire loan by the 1st of the month, the FHA can still charge you the remaining 10 days of interest. That’s why it’s called post-payment interest as you are still paying interest on a loan you don’t owe any longer.
While this wasn’t technically a prepayment penalty, many FHA loan holders felt like it was, which prompted the FHA to put an end to this rule. Again, if your loan originated after January 21, 2015, you will not be subjected to this rule.
Prepay Your FHA Loan With No Penalty
If you fall into the category of the ‘no prepayment penalty’ FHA loans, you are free to pay your loan as you please. Of course, at a minimum, you must pay your regular monthly payments, which include:
- Real estate taxes (if escrowed)
- Homeowner’s insurance (if escrowed)
- Mortgage insurance premium
But, you can choose to make larger payments if you wish to pay the loan down faster. Most loan servicers allow you to pay as much as you want towards the principal, assuming you make the minimum payment. It’s best to check with your servicer though, to make sure they allow it.
So how could you prepay your loan? There are several ways, keep reading to learn about them.
Prepaying Your FHA Loan
You don’t have to be a millionaire to prepay your FHA loan. Because there are no penalties, you are free to make extra payments when you are capable of doing so. Below are a few ways you can use to get your loan paid down:
- Pay an extra $100 each month
- Make bi-weekly payments by dividing your total due in ½ and paying that amount every two weeks
- Make a lump sum payment each year (maybe from a bonus or tax refund)
- Pay extra whenever you have the money
- Pay an extra 1/12th of the mortgage payment each month
No matter how much money you pay extra towards the principal, it knocks it down. Even just $100 a month can take a few years off the term of your loan and save you thousands of dollars in interest.
Mortgage Insurance Remains no Matter What
It’s important to realize that with an FHA loan, your mortgage insurance never goes away. You will pay it for the life of the loan. This is different than what occurs with a conventional loan. On these loans, you pay Private Mortgage Insurance for as long as you owe more than 80% of the home’s value. Once you hit that 80% mark, you can request that the lender remove the PMI from your loan. If you don’t request it, the lender has to remove the PMI once your LTV hits 78% – it’s the law.
FHA loans, on the other hand, charge the mortgage insurance for the entire loan term. When you pay off the loan early, not only do you save money on interest, but you also save it on the mortgage insurance that you pay.
If you can afford to pay your FHA loan off early, it could be a very smart financial decision. You can pay the loan off at any time without paying a penalty, unless it was originated before January 21, 2015. Even then, though, you only pay a few days of interest, so it’s not a true prepayment penalty, but rather an inconvenience to pay interest on a loan that you no longer owe. You’ll save more money by paying it off early than by trying to avoid the extra fee.