Believe it or not, the prepayment penalty is still around. Luckily, it’s not a part of the VA loan program, though. You are free to pay your VA loan off whenever you want before the maturity date. You never have to worry about paying any type of penalty for doing so.
What is a Prepayment Penalty?
In case you aren’t familiar, a prepayment penalty is a charge you pay only if you pay your loan off within a specified period. For example, if you have a 3-year prepayment penalty, you should refrain from paying your loan off in that time. If you do, you’ll pay a percentage of your loan amount (as stated in your mortgage closing documents).
The prepayment penalty helps investors know that they will make a certain amount on your loan. If they don’t charge that prepayment penalty, you could pay your loan off after just a few months. In that time, the lender only earned a little bit of interest, but the administration costs of doing the loan were likely much more than the investor made. The prepayment penalty offsets that risk.
The prepayment penalty was designed to help discourage borrowers from refinancing too soon after taking out their loan (even if interest rates dropped) or from even making a large payment towards their principal too early.
Why You May Want to Prepay Your VA Loan
You may wonder why prepaying your mortgage would even be a factor here. As we stated above, some people jump at the chance to refinance their loan when interest rates drop. They neglect to see the cost the loans actually create, as each time you refinance you pay fees including the VA funding fee.
Some people prepay their loan to limit the amount of interest they will pay. The faster you pay down your loan’s principal, the less interest you pay over the life of the loan. Prepaying your mortgage early also allows you to gain equity faster. Some people buy a home in the hopes of using the equity for retirement income. The faster you pay down your balance, the more equity you will have in the home.
How Prepaying Your VA Loan Affects a Fixed Rate Mortgage
You may wonder how prepaying your loan would affect your fixed rate mortgage. While your payments would remain the same, you may have fewer years to pay on your loan. As long as the extra payments you make go straight towards your loan’s principal, you knock down the amount you owe. This could mean that you pay your loan off in fewer years. With fewer payments to make, you save on the interest you would have paid with those payments.
The good news is that as a veteran with a VA loan, you can pay your VA loan off whenever you want. If you can afford it and you already have an established emergency fund and retirement funds, paying your loan off faster can be the next best place for your money. Just make sure you are truly set financially with funds to bail you out of a financial emergency and funds to help you live your best life in retirement.