Paying the bank an early repayment penalty – when and why you have to do it
Paying off early comes at a price
Pay off your loan early? You can. But it costs.
When you bought your property, you agreed to a specific term and fixed interest rate with the bank for the financing. But if you now want to pay off your real estate loan early, you have to pay the bank an early repayment penalty (In German: "Vorfälligkeitsentschädigung" or "VFE"). It's compensation for the lost interest and fees that the bank would otherwise have received had you continued paying until the end of your mortgage contract.
Of course, that means you can only repay your loan faster than initially agreed if you have more money left over than you thought; If you get a salary increase and can put aside more money each month, for example. Or if you sell your property again before you repay your loan completely.
If you sell your house and make enough money to repay the remaining debt in one go, you can repay the real estate loan early – and compensate the bank.
The early payment penalty is not a fixed amount. According to the Federal Court of Justice, banks should base their calculation of the VFE on the usual yields for mortgage bonds. However, this calculation gets it wrong in about nine out of ten cases, which, let's be honest, is a pretty terrible batting average. But why does that happen in the first case? Well, for one thing, unscheduled repayments for the remaining time on the contract are often not considered at all. And agreed changes in the repayment rate are also not included. Since paying too much prepayment interest is just as lame as miscalculating, you can find a summary of everything that matters regarding the early repayment penalty here.
Early repayment penalty for the sale of a house: What matters?
Early repayment charges are sometimes also referred to as repayment interest. If you run across the abbreviation VFE (Vorfälligkeitsentschädigung), that's what this is.
To calculate the early repayment fee, the bank considers the loss of the interest it would have accrued up until the end of the fixed interest period. However, it must then deduct the following amounts from this:
Savings in administrative costs
Savings in risk costs
Return that can be achieved if the remaining amount is invested (e.g., in mortgage bonds)
But beware: In 90% of cases, the calculations of the VFE by the bank are plain wrong. They often don't take things like unscheduled repayments for the remaining term or possible repayment rate changes into account. It can quickly result in a few thousand euros extra being added to the bill. Checking the numbers isn't just worth it; we urge you to do it. You can either do it online or have it checked by the specialists at a consumer center — but you'll have to pay a fee of around €80.
By the way: If a KfW loan is part of your construction financing and you want to pay back the loan early, you'll have to pay prepayment interest for that as well.
If you rent out your property and sell it within the first ten years, you should check if you can take the early repayment penalty into account when calculating the speculation tax. It reduces the taxable profit from the sale and can then be deducted as income-related expenses. Taking advantage of some synergies will help you pay less in the end.
Not sure what the speculation tax is? Have a look here.
How to avoid paying an early repayment penalty
Can you avoid paying an early repayment charge? Yes, you can. If you don't want to pay an early repayment penalty when paying off your loan early, you can also use Plan B through F.
Plan B: Pledge exchange
If you plan to buy another property through the sale of real estate, you can take the contract with you and continue financing the new one with the same loan. The new house or apartment needs to be at least of equal value.
Plan C: Change the debtor
If you have construction financing ("Baufinanzierung") on hand, which is also interesting for the buyer, you can apply to change the debtor. If the bank has no objections regarding the buyer's creditworthiness, the contract can be rewritten, and the new owner will continue to pay the loan.
Plan D: Use the special right of termination after ten years
If your loan agreement runs for longer than ten years, you have a special right of termination under Section 489 of the German Civil Code (BGB). That is, after ten years and six months' notice after full disbursement, you can then get out of your construction financing - without paying a prepayment penalty (VFE). If you can put something aside each month, you may be able to entirely pay off the remaining debt with your savings after ten years.
Plan E: Increase your repayment
If you're not much of a saver and prefer to pay a higher monthly rate, you can agree to a higher repayment rate. The higher monthly repayment means that you can repay the loan faster. It can also be done retroactively, e.g., after receiving a salary increase.
Plan F: Use the extra payments option
If you have the option to make unscheduled repayments for your construction financing, use it. It also allows you to pay off your real estate loan early — without having to pay an early repayment charge
As you can see, there are many ways to get rid of your loan quicker. Once you're ready to take the next step and want to figure out which route to take, just reach out to us.