Explainer: What is a break cost?

A break cost is a fee a lender charges when you repay your loan early or switch to a different type of loan during a fixed rate period.

This fee can be applied to home loans, personal loans, and car loans.

When do break costs apply?

Whenever you take out a fixed rate loan, lenders expect to earn money through the interest you pay during the specific time period. But if you break from that fixed rate period early, then the lender will lose money. Since that is less than ideal, lenders safeguard themselves against potential losses by including break cost fees.

If you are on a variable interest rate you usually won’t have to worry about this fee. However, depending on your lender you might have to pay an exit (or discharge) fee when you finish paying your loan or switch to a different lender.

How to avoid break costs?

Depending on your lender, you will have to meet certain requirements to avoid break costs. Some providers may have a prepayment threshold, which allows you to pay a certain amount before the free incurs.

Others might have a time period that doesn’t penalise you for paying off your loan in full early. This time period could be 6 to 12 months before the contract ends.

When taking out a home loan it is important to ask your provider about their break cost rules. That way you won’t be suddenly confronted with a massive fee if you find yourself in a situation in which you are able to pay off your loan early.

Source: Maria Gil

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