One of the most common areas where lenders differ from each other is in how they handle prepayments. Borrowers rarely pay exactly at maturity—they either need an extension or they pay off early. That means the way you approach prepayment penalties (or the alternatives) can have a real impact on both your margin and your borrower relationships.

The Case for Prepayment Penalties

For balance sheet lenders in particular, prepayments create real challenges around fund utilization and cash flow. You’ve invested time and cost into originating a deal, only to see it pay off after a couple of months. That means redeploying capital, reallocating investor funds, and adding administrative burden.

A prepayment penalty acts as a buffer:

• Margin generator: Creates additional revenue across your portfolio.

• Smoother cash flow: Helps offset the churn of reallocating capital.

• Investor alignment: Reduces friction in managing fractionalized or trust deed investments.

The Drawbacks

On the flip side, there are meaningful downsides:

• Borrower friction: In a market that prizes flexibility, an added penalty can be the hurdle that loses you a deal.

• Relationship risk: Prepayment penalties are often the last thing a borrower remembers about you—an extra fee just as they’re celebrating a successful exit. That can sour the chance of repeat business.

Striking a Balance

So how do you weigh improved yield against borrower goodwill? A few common approaches we see:

• No penalty at all — often appropriate for construction or rehab loans, which rarely repay in under six months.

• Limit penalties to certain loan types — for example, only bridge loans where early payoff is more likely.

• Use as a negotiating tool — willingness to flex on origination fees or rates in exchange for a prepay clause.

• Stay within norms — penalties above 1% on short-term (12 months or under) loans are outside market standards and invite pushback.

Alternatives That Work

One of the most effective alternatives we see is a minimum interest period. Instead of a fee, the borrower pays a set minimum of interest regardless of when they repay. It works like a penalty but feels fairer:

• Typically 3–6 months minimum interest is market-acceptable.

• Easier for borrowers to justify compared to a fee.

• Ensures lenders still earn yield even on early exits.

Another option: waive the penalty for repeat borrowers. This protects your margin on one-off deals while reinforcing loyalty with clients who bring you business again.

How Petra Handles It

Whatever your approach—prepayment penalties, minimum interest, or a mix—we can accommodate it. At Petra, we set up your servicing so that payoff terms are enforced exactly as you’ve written them, without you needing to revisit old notes. And we’ll work with you to make sure borrower communication aligns with your expectations.

If you handle prepayments in a unique way—or if your current servicer can’t support the structure you want—let us know. We’d be glad to help.