Calculating Prepayment Penalties in a Transparent Manner
63 Pages Posted: 30 Aug 2007 Last revised: 31 Mar 2008
Date Written: 03/28/2008
Special reimbursements for creditors in the case of the premature redemption of mortgaged loans are called prepayment penalties. They have been a controversially discussed topic in Germany for the last decade. This is mainly due to the fact that the European Union judges German prepayment penalties as too high compared to those in other European countries. Since there is no standardized approach to assess prepayment penalties, our paper develops a general computational method with special focus on the calculation of default risk. To this end, a quantification of expected losses as well as costs of equity capital for unexpected losses according to the revised international capital framework (Basel II) is necessary. In order to quantify the costs of equity, the estimation of opportunity costs turns out to be the most promising approach. Summarizing, our paper contributes significantly to a more transparent calculation of prepayment penalties. Therefore, it should be preferred to simply constraining prepayment penalties to a fixed percentage of the loan amount, as it is intended by legislation.
Note: Downloadable document is in German.
Keywords: Basel II, Eigenkapitalkosten, Fungibilitaetspraemie, Standardrisikokosten, Vorfaelligkeitsentschaedigung
JEL Classification: G18, G21, G32
Suggested Citation: Suggested Citation