Private banks have occupied the space of old proverbial mahajans/baniyas (I am one too though only by caste :) ), whereby they do anything possible to fleece the customer and increase their ROI. Prepayment penalty is one such thing.
There shall never be a mention of Prepayment charge/ penalty even once at the time of giving a loan. However, most car loans are typically closed at end of 2-3 years in today's enviroment as people change their cars more frequently now. At this time you realise that there was a blank in your loan agreement talking about prepayment charge/ penalty which they did not show you but it got filled sometime after you got the loan and they put this prepayment charge/ penalty as 4-5% (5% nowadays with private banks).
I worked with a Private Bank at the time of taking my car loan and upon asking, I was told that prepayment charge/ penalty was zero for bank employees. However, I did not figure out what'd happen if I left the services of the bank and to my utter surprise, when I went for prepayment I was charged 4% as at that point I was not an employee of that Bank anymore.
As such banks are right in charging a prepayment charge/ penalty to take care of fluctutations in liquidity but very often this factor is accounted for in the pricing of the loan itself. A prepayment charge/ penalty is just additional income and given private banks' hold on the market they were able to charge this. Besides, it started with a 2% amount years ago and some smart managers were able to convince top management to hike it to a level where they'd loose brand equity of the bank for short term ROI increase and career appreciations.
Today, when SBI is all out to gain market share by offering low rates, these private banks would soon be seen rolling back prices as well as prepayment charge/ penalty to make themselves look more attractive than SBI. However, by that time, millions of customers wouod have been duped by this charge.
I plan to take this (high prepayment charge/ penalty) issue to banking ombudsmen one day and would look for support from people who feel that this is a right thing to do. Till such time I advise you to start negotiating with multiple banks for your loan in order to get rid of this clause plus favaourable rates as well. Good Luck.
