In Canada, a prepayment penalty can significantly impact homeowners who wish to pay off their mortgage earlier than planned. Lenders impose this penalty to compensate for the lost interest when the loan is paid off ahead of schedule.
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Understanding how prepayment penalties work is essential for any homeowner.The penalty amount depends on the type of mortgage you have. For fixed-rate mortgages, it is typically calculated as the greater of three months’ interest or the interest rate differential (IRD), which compares the current mortgage rate with the rate at the time you took out the loan. With variable-rate mortgages, the penalty is usually limited to three months’ interest.However, many Canadian mortgages allow for partial prepayments without penalty—usually up to 10-20% of the original loan amount each year.
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It’s important to know these limits as they can help you reduce your principal faster without incurring additional fees.Before signing a mortgage agreement, carefully review the prepayment clauses and ask your lender about their penalty structure. Planning ahead can save you money in the long run and help you avoid unexpected costs if you decide to pay off your mortgage early.
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