Commercial real estate loans may limit advances in order to retain the lender’s expected loan proceeds. If investors liquidate their debts before the loan maturity date, they may have to pay a prepayment penalty. There are four main types of "exit" fines for prepayment of loans:
Prepayment penalty. This is the most basic prepayment penalty. It is calculated by multiplying the current outstanding balance by the specified prepayment penalty.
Interest guarantee. Even if the loan is paid off in advance, the lender is entitled to receive a specified amount of interest. For example, a loan with a guaranteed interest rate of 60 months is 10% and thereafter a 5% exit fee is charged.
Lockout. The borrower cannot pay off the loan before the specified period (for example, five-year lock-up).
Defeasance. Collateral replacement. Instead of paying cash to the lender, the borrower exchanges new collateral (usually US Treasury bills) for the original loan collateral. This can reduce costs, but this method of paying off the loan may be heavily penalized.
Prepayments are identified in loan documents and can be negotiated with other loan items in commercial real estate loans.
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