DSCR Loan Prepayment Penalties

Investor · Palm Beach County, FL · Member since 2021 · 14 posts · 10 votes

Hi there! I applied for a DSCR loan and the terms include vague language indicating they may be a penalty if paying the loan early. Is this common for these types of loans? Is there a typical minimum period where the penalty applies, like 3-5 years? Can this be negotiated?

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Robin SimonBusiness Member

Lender · Austin, TX · Member since 2022 · 5k+ posts · 4k+ votes

Quote from @Gustavo Alvarez:

Yes - generally prepayment penalties are common on DSCR Loans, but can vary and some DSCR Lenders will have DSCR options with no prepayment penalties (there are also a few states that preclude any prepayment penalties at all, even on investment properties - this includes Alaska, New Mexico, Kansas and some others).

There are two parts to a prepayment penalty - 1) How Long and 2) How Much

1) Generally it will be no more than 5 years for the length (i.e. if you prepay in the first five years of a thirty-year loan you are subject to a fee), but 4 or 3 or 2 or 1 year options are somewhat common. It is very very rare for a DSCR Loan to have a prepayment penalty duration more than 5 years

2) Generally this will range from 5% for the entire period, to a "descending penalty" structure which is very common - such as "5/4/3/2/1" where its 5% first year, 4% second year, 3% third year etc. There is also a prepayment structure that is equal to six months of interest (so half the rate) for about five years - this is more common for west coast DSCR lenders (sometimes called "Cali Style"

Generally OK to negotiate - but with no prepayment penalty, you are likely going to have a significantly higher rate or points at close

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Luis Astudillo
Member since 2024 · 23 posts · 8 votes
2y
Costin,

A prepayment is an interest-based: The lender charges a specific time period's worth of interest—say, 6 months' worth—if you pay off your loan early. DSCR loan programs have pre-payment options from 0 years to 5 years. With a 0 years option more than likely your interest rate will be higher than it would be for a 5 years pre-payment option. Now, whichever option one chooses the rate is fixed for the next 30 years. The pre-payment option; is my understanding, that the pre-payment option is only executed when the loan is refinanced or the property sold.

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Costin I.
Rental Property Investor · Round Rock, TX · Member since 2016 · 1k+ posts · 971 votes
2y
@Luis Astudillo - I understand and I'm clear on the prepayment concept in the context of refinancing the loan or selling the property and squashing the entire loan balance. My question is: do you get penalized with the prepayment fee if you pay extra, like instead of just paying your monthly payment, let's say $1000, you add extra to the principal and pay $1,500 or more?
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Luis Astudillo
Member since 2024 · 23 posts · 8 votes
2y
As far as I know, you should be able to pay down the principle amount without any penalties.
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Jonathan Taylor
Lender · Los Angeles, CA · Member since 2017 · 916 posts · 647 votes
2y
@Gustavo Alvarez Every DSCR loan is whats called a business purpose loan and these have some form of Pre payment penalty. Some lenders allow you to buy the pre pay down with either higher rate or additional cost at closing. Ask your lender or broker what the cost is, and depending on how long you want to hold the loan, it may make sense. But yes, if you prepay the loan in full within the pre pay penalty period, you would pay a penalty to the originating lender as a percentage of the original loan balance. This structure is very common.
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Brittany MinocchiBusiness Member
Lender · Massillon, OH · Member since 2022 · 1k+ posts · 486 votes
2y
Yes, very common. The length varies by lender/state, some states (like OH and PA) have rules around prepayment penalties. If you're required (or choose) to buy it out, your rate and/or costs will be higher as a result. Longer penalty = lower rate, shorter penalty = higher rate (usually - not that long ago I had a loan where a 2 year PPP was cheaper than a 3 year)
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Daniel Sperling
Lender · Baltimore, MD · Member since 2019 · 37 posts · 34 votes
2y
Quote from @Costin I.:

Lenders, when we are talking about pre-payment, is that as in paying down the loan completely before the 5/4/3/2/1 period (zero balance), or any pre-payment (as in extra principal payments, monthly or periodically)?

Great question. Generally any prepayment of principal -- including partial prepayment (paying down extra periodically) -- will incur a prepayment penalty. So, it's not just full payoff of the loan via sale or refinance during the prepayment penalty period that triggers the prepayment penalty.
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Michelle Romano
Warminster, PA · Member since 2015 · 72 posts · 9 votes
2y
Hello - I have been reading these posts about DSCR loans and prepayment penalties and have a question. To clarify, it is illegal for the lender to charge the investor a prepayment penalty in PA for $301K and under loan even if the lender is not located in PA or do they both need to be in PA?

I am looking for a DSCR loan for a long term rental I have in PA with small cash out. The existing loan I obtained 6 yrs ago was a DSCR loan with a one year ARM - no prepayment penalty, that is coming due in October. I am getting quoted the 5/4/3/2/1 step down prepayment penalty. I have no intention of selling the property as it has great cash flow. Any lenders here that can assist. Thank you.

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Emanuele Mayer
Lender · Member since 2022 · 72 posts · 19 votes
2y
Hello Gustavo the standard Prepayment penalty for DSCR is 3 years but it possible to do 0 years.
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Clayton Silva
Lender · CA · Member since 2018 · 637 posts · 393 votes
2y
Most DSCR lenders come with a pre pay. Right now I would recommend a 2 or 3 year PPP and here is why. According to the Fed's "dot plot" they expect rates to drop meaningfully near the middle to end of 2026. So in my eye's a good DSCR rate with a 3/2/1 is acceptable because worst case you refinance after 2 years and only pay 1% of the loan amount as a pre payment. You could also do a 2/1 for worse pricing if you are super confident that 2026 is the year for rate drops. I am cautiously optimistic which is why I recommend a 3 year for good pricing now and it still gives you the flexibility to refinance in 2026 should rates really come down.
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Jacob Sherman
12 Penns Trail Suite 138 Newtown, PA 18940 · Member since 2023 · 1k+ posts · 319 votes
2y
Yes very common . Can be negotiated . It ultimately directly effects the pricing
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Michelle Romano
Warminster, PA · Member since 2015 · 72 posts · 9 votes
2y
Quote from @Luis Astudillo:

Costin,

A prepayment is an interest-based: The lender charges a specific time period's worth of interest—say, 6 months' worth—if you pay off your loan early. DSCR loan programs have pre-payment options from 0 years to 5 years. With a 0 years option more than likely your interest rate will be higher than it would be for a 5 years pre-payment option. Now, whichever option one chooses the rate is fixed for the next 30 years. The pre-payment option; is my understanding, that the pre-payment option is only executed when the loan is refinanced or the property sold.

Luis,
That is my understanding as well. If my total loan amount with closing costs is, let;s say $145K I would not pay off the balance in 0-5 yrs, so I would not have to pay the PPP is that correct?
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Michelle Romano
Warminster, PA · Member since 2015 · 72 posts · 9 votes
2y
Quote from @Brittany Minocchi:

Yes, very common. The length varies by lender/state, some states (like OH and PA) have rules around prepayment penalties. If you're required (or choose) to buy it out, your rate and/or costs will be higher as a result. Longer penalty = lower rate, shorter penalty = higher rate (usually - not that long ago I had a loan where a 2 year PPP was cheaper than a 3 year)

Its a little confusing. I have received 2 quote 7% /30 yrs and NO PPP and 2 quotes 6.85%/30 yr with 5/4/3/2/1 PPP? Ideally, I wpuld like the 6.85% without the penalty. Also, I purchased this property in 1996 in my name. The other properties were all in their own LLC. Future properties wil also be purchased with LLC but do not want to change the title for tax purchases per accountant. Suggestions?
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Michelle Romano
Warminster, PA · Member since 2015 · 72 posts · 9 votes
2y
Good question and have similar. As I stated in my post,if it is illegal for lender to charge a Prepayment Penalty in PA why are they quoting the step down PPP? How can I get around this?
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Brittany MinocchiBusiness Member
Lender · Massillon, OH · Member since 2022 · 1k+ posts · 486 votes
2y
Quote from @Michelle Romano:

Quote from @Brittany Minocchi:

Yes, very common. The length varies by lender/state, some states (like OH and PA) have rules around prepayment penalties. If you're required (or choose) to buy it out, your rate and/or costs will be higher as a result. Longer penalty = lower rate, shorter penalty = higher rate (usually - not that long ago I had a loan where a 2 year PPP was cheaper than a 3 year)

Its a little confusing. I have received 2 quote 7% /30 yrs and NO PPP and 2 quotes 6.85%/30 yr with 5/4/3/2/1 PPP? Ideally, I wpuld like the 6.85% without the penalty. Also, I purchased this property in 1996 in my name. The other properties were all in their own LLC. Future properties wil also be purchased with LLC but do not want to change the title for tax purchases per accountant. Suggestions?

Hi Michelle!
With that small of a difference in rate, I would definitely go with the 7% and no PPP option based on rate alone. However, it's also important to compare fees between lenders to make sure you're truly looking at them apples to apples. If the no PPP lender is charging thousands in discount points to offer that 7%, that's an important factor to consider.
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