Pre-payment Charges On Housing Loan

Most banks offer a home loan facility for their customers to purchase or refinance their properties. A typical housing loan requires a customer to pay a fixed monthly instalment on a fixed due date. This is assuming there are no changes in interest rate, otherwise the instalment amount and loan period could change.

Prepayment

When a customer wants to pay in excess of the fixed monthly instalment, the excess amount is termed as “prepayment”.

Generally, there are 2 types of prepayment:

Considerations on Prepayment

Different banks may have different terms and conditions imposed on prepayments. Normally, these terms and conditions are clearly stipulated either in the product brochures, letter of offer or in the loan agreement.

For partial prepayments, some banks may require pre-notification or may impose some restriction on the amount to be pre-paid while others may impose a penalty fee. However, there are also banks that do not impose such restrictions as part of their product features intended to help customers save interest.

Full prepayments are usually subject to penalty charges, which are also known as “early settlement penalty”. Banks will usually stipulate a minimum loan period that the customer must maintain his loan there, commonly for a period of 2 years, but could be longer depending on the Bank. If full prepayment is made within this time period, an early settlement penalty will be imposed. After the required minimum loan period has passed, banks normally would not charge any early settlement penalty, even if the loan does not satisfy the original loan period.

Waiver of Penalty Fees on Prepayment

On a case-to-case basis, some banks may consider reducing or waiving the penalty fees based on the following business reasons:

• Existing loan customer who is selling the property to another buyer who is taking up a loan with the same bank, i.e. continuity of business.
• The loan customer is settling the loan and replacing it with another loan application of a property which is similar or larger in amount.
• Compassionate financial reasons. The existing loan customer has some financial difficulties and is forced to sell the property at a loss.

However, one should note that banks are not obligated to waive or reduce penalty fees, which have been clearly stipulated in the loan agreement contract.

1. Will the prepayment be treated as principal loan reduction or as an advance payment?
2. What is the difference between principal loan reduction and advance payment?
3. Which type of prepayment is more beneficial, principal reduction or advance payment?
4. For full prepayment of loan, banks require the customer to give 1 month notice. After serving the necessary notice, will I still be subjected to penalty interest?
5. Why do banks charge penalty for prepayments?
6. How do banks calculate penalty charges for full prepayment or early loan settlement?
7. When do banks charge penalty for full prepayments or early loan settlement?

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1 Will the prepayment be treated as principal loan reduction or as an advance payment?

The customer will need to specify the intention of their lump sum prepayment, whether it is for principal loan reduction or advance instalment.

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2. What is the difference between principal loan reduction and advance payment?

For principal loan reduction, the lump sum payment will be used to pay off the loan's interest charges for the month and the balance of the lump sum prepayment will be used to reduce the loan's outstanding principal. However, the customer is still required to continue with the subsequent monthly instalments.

As for advance payment, the lump sump payment will be used to pay the instalments in advance. No future monthly instalment is required up to the number of monthly instalments the advance payments have covered. There is no change in the period of the loan.

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3.Which type of prepayment is more beneficial, principal reduction or advance payment?

It depends on what you want, savings or convenience?

For principal loan reduction, interest savings can be substantial since the lump sum prepayment reduces the principal loan amount which will reduce interest charges. This reduces either the loan period or the monthly instalment amount.

On default, the bank will normally reduce the loan period and maintain the monthly instalment amount. Again, you are required to continue with your instalment payment the following month.

For advance payment, the customer simply enjoys the convenience of not making future monthly instalments until the lump sum prepayment is exhausted. However, there will not be interest savings and the loan period and monthly instalment amount remain unchanged. If interest is computed based on daily outstanding balance, there can be immediate savings on interest.

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4.For full prepayment of loan, banks require the customer to give 1 month notice. After serving the necessary notice, will I still be subjected to penalty interest?

If notice is required, there will not be penalty charges once the notice has been served. However, it is important to understand the terms and conditions of the full prepayment clause in the loan agreement as it may differ from one bank to another.

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5.Why do banks charge penalty for prepayments?

This is due to the administrative and funding cost that have already been incurred by the bank to finance the loan.

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6.How do banks calculate penalty charges for full prepayment or early loan settlement?

Different banks use different methods. While some calculate penalty charges based on a percentage of either original loan or outstanding balance, others may impose a flat rate, usually between 3 to 6 month’s interest against the original loan amount.

Each bank has its unique loan features to provide the most attractive loan package for customer to save interest.

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7. When do banks charge penalty for full prepayments or early loan settlement?

Usually, penalty charges are levied for loans which have been fully settled within 2 to 5 years from the date of the loan’s commencement. This period would however differ from bank to bank.

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