Final answer:
The $1,600 Letha paid as a prepayment penalty for paying off her mortgage early is deductible as an interest expense, as it represents the future interest the lender misses out on because of the early payoff.
Step-by-step explanation:
Letha incurred a $1,600 prepayment penalty to a lending institution because she paid off the mortgage on her home early. The $1,600 is deductible as interest expense. When you prepay a mortgage, you are effectively paying off future interest earlier, hence, the penalty represents interest that the lender would no longer receive over the term of the loan. Prepayment penalties are generally considered additional mortgage interest. Remembering this can be helpful in managing other loans & interest, such as home loans and auto loans.
It is important to understand that making additional payments on a mortgage can lead to significant interest savings over the life of the loan. However, lenders often include prepayment penalties to discourage early payoff and ensure they collect a certain amount of interest. The concept is similar to interest savings demonstrated in Example C, where paying off more than the minimum saves money on interest in the long run. In the context of homeownership, a borrower should be well-informed about potential penalties and the impact on their financial situation before making the decision to pay off their mortgage early.