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A prepayment penalty is a fee charged to borrowers who pay off their loan early, typically within the first three to five years of the loan term. This penalty compensates lenders for the lost interest income they expected to earn over the loan’s full term and helps lenders manage their interest rate risk and cash flow projections. Prepayment penalties are not universal and are more common in certain loan types. Jumbo loans often include prepayment penalties because they represent larger loan amounts where lost interest income is more significant. Non-QM (non-qualified mortgage) loans frequently include prepayment penalties as part of their risk-based pricing structure. Some portfolio products, where lenders hold loans in their own portfolio rather than selling them to investors, may include prepayment penalties to protect the lender’s investment returns. The penalty structure varies, with some loans charging a percentage of the remaining principal balance (typically 2-5%) and others charging a specific number of months of interest. Borrowers should carefully review prepayment penalty terms before accepting a loan, as these penalties can significantly impact the cost of refinancing or selling the property within the penalty period.