Why Reverse Mortgage Prepayment Charges Matter

Osman Aziz. September 18, 2020

The Equitable Bank Reverse Mortgage is designed to be a long-term solution for retired Canadians. However, we recognize that life changes happen and financial needs evolve. We have created our product with that flexibility in mind.

Reverse mortgages do not have terms like traditional amortizing mortgages.  This means that when the interest rate term resets, the borrower cannot repay the mortgage without incurring a charge.  Although the reverse mortgage product is designed for longer-term borrowing, some people may use it for shorter periods, but recognize that the prepayment charges will be higher.

Why does a prepayment exist in the first place?

One of the reasons a prepayment charge exists is to offset the internal costs of a lender associated with originating a reverse mortgage (such as administrative, overhead, and other financial costs).  These charges are common in most types of mortgages.

Prepayment Charge Comparison

When evaluating reverse mortgage options, prepayment charges should be considered. Below is an example of prepayment charges in practice. The figures below assume a $300,000 reverse mortgage advanced with an interest rate of 3.79% for a 5 year fixed interest rate reset term.

Methodology 1: Equitable Bank
Outstanding mortgage (principal + accrued interest)* Prepayment Charge Calculation Approx. Prepayment Charge Amount*
Year 1 $ 311,000 5 months’ interest =311,000*3.79%*(5/12) $4,900
Year 2 $ 323,000 4 months’ interest =323,000*3.79%*(4/12) $4,100
Year 3 $ 336,000 3 months’ interest =336,000*3.79%*(3/12) $3,200
Year 4 $ 349,000 3 months’ interest =349,000*3.79%*(3/12) $3,300
Year 5 $ 362,000 3 months’ interest =362,000*3.79%*(3/12) $3,400

Other prepayment methodologies exist which are based on the percentage of principal outstanding. Important to note that larger mortgage amounts with higher interest rates result in a larger principal outstanding balance. When the larger principal outstanding balance is multiplied by the prepayment charge factor, the Prepayment Charge owed will also be larger.

Methodology 2: Other market option
Outstanding mortgage (principal + accrued interest)* Prepayment Charge Calculation Approx. Prepayment Charge Amount*
Year 1 $311,000 5% of o/u mortgage balance $311,000*5% $15,600
Year 2 $ 323,000 4% of o/u mortgage balance $323,000*4% $12,900
Year 3 $ 336,000 3% of o/u mortgage balance $336,000*3% $10,100
Year 4 $ 349,000 3 months’ interest =349,000*3.79%*(3/12) $3,300
Year 5 $ 362,000 3 months’ interest =362,000*3.79%*(3/12) $3,400

Everyone’s mortgage is different, but in this example, a borrower could have saved between $7,000-$11,000 in prepayment costs over the first 3 years by choosing Equitable Bank (Methodology 1). You can learn more about our prepayment calculations here.

Prepayment Privileges

To reduce the amount of prepayment charges borrowers can take advantage of prepayment privileges. The Equitable Bank Reverse Mortgage also allows flexible prepayment privileges:

  • Prepay up to 10% of principal once per 12-month period
  • Prepay up to 10% of outstanding principal once per 12-month period
  • After 5 years, prepay up to the entire outstanding balance within 30 days of interest rate reset
  • During years 6 to 10, prepay up to the entire outstanding balance with 3 months’ prior written notice
  • After year 10, prepay any amount without a charge

When evaluating reverse mortgage options, rates and mortgage amounts are typically the primary considerations. Prepayment terms are often neglected, until the need to prepay the reverse mortgage arises. This could end up costing you thousands. If you have uncertainty regarding how long you envision needing a reverse mortgage, the Equitable Bank option may be best for you given our friendlier prepayment terms.