Prepayment penalty
The charge for paying off or breaking a closed mortgage before the end of its term (or prepaying more than your privileges allow). Closed variable: usually three months' interest. Closed fixed: usually the greater of three months' interest or the interest rate differential (IRD). Your contract sets the exact formula.
Variable-rate penalties are simple and usually modest: three months' interest on the balance. Fixed-rate penalties are typically the greater of three months' interest or the IRD, and the IRD can reach five figures, especially at lenders that use the posted-rate method (current posted rate for the remaining term minus the discount you got at signing), which produces a lower comparison rate and a larger penalty.
Penalties most often hit when you sell mid-term, refinance to pull equity, or break to chase a lower rate. You can often reduce or avoid them by porting the mortgage to your new home, using your annual prepayment privilege first, or blending instead of breaking. Lenders may also add an administration or discharge fee.
Federally regulated lenders must explain how the penalty is calculated and give you the information you need to estimate it. Get the exact figure in writing and compare it with the interest you'd save before deciding. Our calculator gives an estimate.
Worked example
Illustrative: a $300,000 closed variable mortgage at 4.20%: three months' interest = $300,000 × 4.20% ÷ 4 = $3,150.
For a closed fixed mortgage the lender also calculates the IRD and charges whichever is greater; see the IRD entry for a worked example of both calculation methods.
Illustrative figures only, rounded; not a quote or current rate. See today’s rates on our live board.
Sources
- Mortgage fees: Prepayment penalties (Financial Consumer Agency of Canada)
- Breaking your mortgage contract (Financial Consumer Agency of Canada)
See also
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