Glossary term
Prepayment Penalty
A prepayment penalty is a fee some lenders charge if you pay off a loan early or pay down a large part of it ahead of schedule. It compensates the lender for interest it will no longer receive. Many consumer loans have no such penalty, but if yours does, the terms must appear in your loan disclosures.
Updated October 17, 2026 · Editorial Team
How Prepayment Penalty works in practice
Penalties are usually a percentage of the balance paid off, a set number of months of interest, or a flat fee, and they sometimes apply only during the first few years. Some loans use precomputed interest, which can reduce the benefit of paying early even without a stated penalty. Your contract and Truth in Lending disclosure say whether either applies.
Say you owe $15,000 at 8.00% with 36 payments of $470.05 left. Finishing on schedule costs another $1,921.80 in interest. A 2% prepayment penalty would be $300.00, so paying off now would still save about $1,621.80.
Before refinancing or paying a loan off early, check for a penalty and compare it with the interest you would save. Asking for a loan with no prepayment penalty keeps your options open if your finances improve.
Prepayment Penalty: quick questions
How do I know if my loan has a prepayment penalty?
Check your loan contract and Truth in Lending disclosure, which state whether a penalty may apply.
Do auto loans have prepayment penalties?
Many do not, but some do, and certain precomputed-interest loans reduce the savings from paying early. Read your contract.
Is it still worth paying off early with a penalty?
Often yes, if the interest saved is larger than the penalty. Compare the two numbers.
Sources
- Regulation Z (Truth in Lending), 12 CFR Part 1026 — Consumer Financial Protection Bureau. Accessed October 17, 2026.
- Auto loans — Consumer Financial Protection Bureau. Accessed October 17, 2026.
We cite primary sources: regulators, central-bank data and federal agencies. Worked examples on this page are our own calculations. See our methodology.
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