Process and legal

Early redemption charge (ERC)

Fee charged by the lender if the commercial mortgage is repaid before the end of an early-redemption protection window, usually the fixed-rate period.

Early redemption charge is a fee a UK commercial mortgage lender charges the borrower if the loan is repaid in full (redeemed) before the end of a defined early-redemption protection window, almost always the fixed-rate period. ERCs compensate the lender for the cost of unwinding its hedging position when the loan disappears earlier than expected.

How ERCs are typically structured

Two main patterns on UK commercial mortgages:

Percentage of loan, tiered by year: a sliding scale that reduces over time. Common: 5% in year 1, 4% in year 2, 3% in year 3, 2% in year 4, 1% in year 5, zero thereafter on a 5-year fix.
Cost of unwind: the actual cost to the lender of breaking its hedge, calculated by reference to a Gilt or swap-rate movement. This is less common on small-ticket UK commercial mortgages and more common on larger institutional deals.

Variable-rate UK commercial mortgages often carry no ERCs, or only a short ERC window (6 to 12 months from drawdown). This is one of the main reasons borrowers who genuinely cannot predict whether they will need to refinance early prefer variable to fix.

When ERCs bite

The common cases. Borrower sells the property before the fix ends. Borrower refinances onto a cheaper rate because market rates have fallen. Borrower restructures the business and wants to consolidate debt. Borrower pays down the loan from a capital event (a sale of another asset, an inheritance, an insurance recovery).

ERC overpayment allowances

Most UK commercial mortgage fixes include an annual overpayment allowance free of ERC. Common allowance: 10% of the outstanding balance per year. So on a 1 million loan with a 10% allowance, the borrower can repay up to 100,000 in any given year without triggering ERC on that portion. Full redemption beyond the allowance triggers full ERC on the redeemed amount.

A worked broker example

A Manchester investment loan: 750,000 on a 5-year fix at 7.0% per annum, 4-3-2-1% sliding ERC scale. After 18 months the borrower receives an unexpected offer on the property and decides to sell.

Outstanding balance at redemption: 715,000 (some capital amortised).
Year-2 ERC tier: 3%.
Overpayment allowance: 10% of opening balance for the year = roughly 73,000 free of ERC.
ERC applies to 715,000 minus 73,000 = 642,000.
ERC charge: 3% of 642,000 = 19,260.

The borrower nets 19,260 less from the sale than they would on a redemption outside the ERC window. Whether the sale still makes sense depends on the price uplift.

ERCs versus exit fees on bridging

A bridge “exit fee” is a different concept. It is a fee paid on every redemption, not a penalty for early repayment. Bridges have exit fees because the bridge lender wants to be paid for the deal once it is repaid normally. Term commercial mortgages have ERCs because the term lender wants to be compensated only if redemption is early.