Prepayment language: protect the yield or keep the note liquid?

The prepayment section on a note I'm drafting reads that the borrower may prepay in whole or in part at any time without penalty. That single line hands the duration of the asset to the borrower. If they refinance in month 14 I get principal back and a coupon I can't replace at the same yield, and I've eaten the setup cost for a year of payments.

Two ways I've seen it written. A step-down penalty (2 percent in year one, 1 percent in year two, open after) protects the yield and makes the cash flow predictable. The cost is at the negotiating table, because a buyer whose entire plan is to season twelve months and refinance into a conventional loan will push back hard on that clause, or just walk.

Open prepay, priced with a somewhat higher coupon as compensation, keeps the borrower comfortable and keeps the document plain, which is what every note buyer I've talked to says they want to see when they bid.

The complication is that how far a prepayment charge is enforceable on owner-carried residential paper depends on state law and on the characteristics of the loan, so that clause belongs to a lawyer licensed where the property sits rather than a template.

I genuinely don't have a settled answer. On paper I intend to hold, the penalty looks worth the friction. On paper I might sell in eighteen months, I'm not sure it earns anything at bid time.