Prepaid interest covers the daily interest accrual from the loan's closing date to the end of that calendar month. It is one of the most commonly misunderstood line items on the Closing Disclosure because it has nothing to do with the first mortgage payment.
How Prepaid Interest Is Calculated
The formula: loan amount multiplied by the interest rate, divided by 365, multiplied by the number of days remaining in the closing month. A $400,000 loan at 7.0% closing on June 8 would accrue 23 days of prepaid interest. Daily rate: $400,000 x 0.07 / 365 = $76.71 per day. Total: 23 days x $76.71 = $1,764 in prepaid interest due at closing.
How Closing Date Affects the Amount
- ✦Closing later in the month minimizes prepaid interest because fewer days remain.
- ✦Closing on the 1st maximizes prepaid interest because nearly a full month of daily accrual is charged.
- ✦Buyers with tight cash-to-close often benefit from a closing in the last week of the month, but this creates other timing risks if the transaction hits a delay.
What Prepaid Interest Is Not
It is not the first monthly payment. The first payment is typically due the 1st of the month after the first full month. A June 8 close means the first payment is August 1, not July 1. Borrowers who expect to pay July 1 will be surprised. MLOs should set this expectation clearly at prequalification so there are no cash-flow surprises after closing.
Aria can calculate prepaid interest for any closing date, rate, and loan amount and explain how the schedule affects total cash-to-close. Ask at vicariointel.com.
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