Understanding prepayment options and terms to reduce debt and boost savings
Borrowers utilize ag loans to achieve their goals, whether it’s expanding operations, purchasing equipment, or investing in land. However, borrowers often find themselves in a position to pay off their loans earlier than anticipated, either to reduce interest costs, save money, or simply to alleviate debt. Understanding prepayment options and terms at the onset of an agricultural loan will allow operations to be prepared for the possibility of loan prepayment.
Prepayment options for agricultural loans refer to the borrower’s ability to pay off the loan amount before the end of the loan term. Prepayment options can help reduce the overall interest paid on the loan, save money, and reduce debt.
5 common prepayment options for ag loans include:
- Full prepayment: This allows the borrower to pay off the entire ag loan balance before the due date, including any unpaid principal and interest.
- Partial prepayment: This allows the borrower to pay off a portion of the outstanding loan balance before the due date. This reduces the overall interest paid on the loan and can shorten any loan term.
- Principal-only payments: This allows the borrower to pay only the principal amount of the loan, which can help reduce the overall interest paid on the loan.
- Accelerated payments: This allows the borrower to make additional payments toward the loan principal or interest, which can help reduce the overall loan term and save money on interest payments.
- Balloon payments: This option allows the borrower to make a large payment at the end of the loan term, which can reduce the overall interest paid on the loan.
It’s important to be aware of the prepayment terms that may accompany these options. Prepayment terms for agricultural loans refer to the specific conditions under which a borrower can make prepayments on their loan.
There are many factors to consider when determining which prepayment option might be best. Speak with your ag lender about what is most important for your operation, whether the lowest interest rate possible, most flexible option or somewhere in between. Your lender may be able to provide you with options that fit those needs.
“If you have plans to expand, sell, etc., it may be beneficial to consider some level of prepayable product and pay a higher rate for flexibility,” advises Trisha Lillie, Conterra relationship manager for the Southwest. “If you have no plans of changing your operation for the length of the loan, paying for flexibility may not be worth it, and the lowest interest rate might be the best option.”
Borrowers should also consider the interest rate environment. In a high-rate environment where rates are expected to decline, borrowers may want to consider a product that provides the option to refinance at some point in the loan should rates be lower. However, it is also during these high-rate environments that we see the largest premiums for flexible prepayment options.
Prepayment terms can vary depending on the lender and the type of loan, but 5 common prepayment terms for ag loans include:
- Prepayment penalties: Some ag loans may have prepayment penalties, which are fees charged to the borrower for paying off the loan before the due date. These fees are designed to compensate the lender for the lost interest payments they would have received if the loan had been paid off on schedule.
- No prepayment penalties (Open prepay): Other loans may not have any prepayment penalties, allowing the borrower to pay off the loan early without incurring additional fees. This option is the most flexible, but a borrower typically pays for that flexibility with a higher interest rate.
- Minimum prepayment amount: Some loans may have a minimum amount that must be paid in order for a prepayment to be accepted. This ensures that the borrower is making a significant payment towards the loan and not just a small amount that would have minimal impact on the loan balance.
- Prepayment notice: Some loans may require the borrower to give advance notice before making a prepayment. This allows the lender to adjust their records and ensures the prepayment is applied correctly to the loan balance.
- Prepayment deadline: Some ag loans may have a prepayment deadline, which is the date by which the borrower must make a prepayment in order for it to be accepted. This ensures the lender has enough time to process the prepayment before the due date.
As growers navigate agricultural loans, understanding prepayment options and terms becomes vital in maximizing financial flexibility and savings. It’s important to consider the specific terms associated with your loan agreement. By carefully reviewing the loan terms, consulting with your lender, and assessing your financial circumstances, you can make informed decisions to optimize savings, reduce interest costs, and achieve your agricultural goals.
Conterra Ag Capital focuses exclusively on agriculture, providing traditional farm and ranch loans, development and alternative lending to America’s farmers, ranchers and agribusiness. With regional lending experts such as Trisha Lillie, Conterra has flexible ag loan options available to meet the needs of producers.
Disclaimer: Please note that the information provided in this article is for educational and informational purposes only, and should not be construed as financial or investment advice. While we have made every effort to ensure the accuracy and reliability of the information presented, Conterra Ag Capital and its affiliates make no representation or warranty as to the completeness, correctness, timeliness, suitability, or validity of any information contained in this article. You should always consult a qualified financial advisor, tax professional, or other qualified professional for advice on your specific financial situation.