Bill Seeks to End Prepayment Penalties in Underlying Mortgages

A new bill, passed by the state Assembly and now under consideration by the state Senate, would eliminate prepayment penalties in underlying mortgages for housing cooperatives where more than 50% of the units are shareholder-occupied. Proponents claim the bill would be a boon to co-ops because it would ease the refinancing of mortgages to take advantage of today’s low interest rates, while critics say it will harm co-ops because banks will likely raise interest rates in order to recoup lost income. 

Sponsors for the bill are Assembly member Jeff Dinowitz, a Bronx Democrat, and Sen. Brad Hoylman, a Manhattan Democrat. “This bill originated from complaints and suggestions offered by co-ops within my own district in the Bronx,” Dinowitz tells Habitat. “Typically during periods of low interest rates, co-ops look to save money by refinancing their mortgage – only to discover they are unable to do so without paying a steep penalty.”

A prepayment penalty is a deterrent designed to keep borrowers from refinancing or paying off a mortgage before it comes to term. It’s the present value of the interest the lender would have earned if the loan had gone for the full length of its term. Typically, the penalties get smaller as the loan matures. 

Most co-op advocates are supportive of the new bill; lenders, not so much. “This new law will be very helpful to a number of co-op buildings,” says Tim Foley, president of the Co-op and Condo Advisory Council, an advocacy group in Westchester County. “Because the prepayment penalties are so high, many co-ops are never able to get out of their mortgage. They’re essentially treading water. The mortgage never goes away, it just gets refinanced.”

“Not so,” counters Casey Fannon, president of National Cooperative Bank. “This bill is really going to hurt housing co-ops. Prohibiting prepayment penalties stops co-ops from access to Fannie Mae, Freddie Mac and the FHA (Federal Housing Administration). They all require prepayment penalties. They don’t have any products without prepayment penalties, and this will limit a co-op’s ability to obtain financing. That’s never a good thing. This bill will have the reverse effect because it will greatly limit co-op borrowers’ options. Even if there would be new loan programs without the prepayment penalty, they would undoubtedly have higher interest rates. And that’s not of advantage to co-ops.”

Dinowitz contends that such talk is nothing but fear mongering by an industry eager to protect its profits. “They come up with all sorts of reasons,” he says. “If lenders want to join us in helping keep money in the pockets of our community members, I would welcome them to the table to talk about what other policies need to be changed in order to do so.”

Co-op advocates are not unanimously in favor of the proposed legislation. Stuart Saft, a partner at the law firm Holland & Knight, has written a white paper contending that if the bill becomes law, it will be more difficult for co-ops to obtain mortgages. “Historically,” Saft wrote, “when lenders stop making co-op mortgage loans, the values of the apartments go down because of the fear of default when the co-op’s mortgage matures. Enacting such legislation during a pandemic and a recession is an odd time to further destabilize the co-op mortgage market…. The end result of enacting this bill will be to limit the availability of co-op loans, drive up borrowing costs, and deprive co-ops of the certainty of their borrowing costs.”