Frequently Asked Questions
"What Is Prepaid Interest?"
Over the years, we have had a lot of fun with discussions about prepaid interest…this is the area where many borrowers believe if they refinance their home loan, they will be rewarded by the lender by being allowed to skip a payment. We might be that nice, but I can assure you lenders are not. Prepaid interest is also the reason many purchasers are told that it is better or less costly to close their transaction at or near the end of the month rather than earlier in the month. Let’s see if we add to the haziness of this concept or make it crystal clear with the details that follow.
First of all, we need to understand that lenders are in the business to earn a profit, hence, a “give away” is not a term they embrace. So don’t expect to “skip” a payment in a refinance situation. Lenders expect to be paid interest from the day they make the loan to the borrower until the day that loan is paid in full…no more, no less.
Secondly, many borrowers equate monthly mortgage payments to monthly rental payments. While a monthly rental payment is typically due on the first day of the month and covers the rent through the end of the month, a monthly mortgage payment is somewhat different. When a borrower makes a monthly mortgage payment typically due on the first day of the month, that payment is covering the period for the prior month. That is, by making a mortgage payment due April 1st, you’re actually paying for the loan outstanding during the month of March. This is referred to as paying interest “in arrears”…..due today but covering a prior period vs. due today and covering a future period.