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What is an Early Termination Fee?

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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 13 September 2016
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    Conjecture Corporation
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Early termination fees are charges that are invoked when a client chooses to end a business relationship prior to the expiration of a contract. A fee of this type may be calculated in several different ways, up to and including the demand for full payoff for any services that would have been rendered had the contract continued to maturity. The concept of the early termination fee is found in many different types of business contracts, ranging from simple contracts for cellular services all the way through to long-term contracts between suppliers and large corporations.

One of the more common examples of an early termination fee is found with cell phone service. Most mobile phone contracts require that, in the event that the subscriber wishes to cancel his or her service, a penalty for ending the contract early is paid. Different providers calculate this fee differently. Some charge a percentage of the monthly rate and apply it to the months remaining in the contract. Others use a schedule of flat fees, with the early termination fee applied depending on how much of the current contract has already been fulfilled. While in some cases the provider may choose to waive the early termination fee, this is an extremely rare occurrence.

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An early termination fee is often included in the terms and conditions of business contracts, especially those designed to be in effect for three to five years. Again, the formula used to determine the exact amount of the penalty fee depends on the provisions documented in the contract itself, as well as the usual policies and procedures of the supplier. For example, a teleconference provider may routinely include the right to charge an early termination fee if a client decides to cancel the contractual agreement early, especially if the cancellation is not due to some sort of negligence or failure to deliver a reasonable quality of services to the customer. The actual fee may be calculated by calculating an average of the call minutes used by the client in each month where the contract was in force, then multiplying that average by the months that remain until the natural expiration of the contract.

An early termination fee is one way that businesses attempt to insulate themselves from a loss in customer revenue. Since many companies base their annual operating budgets at least partially on the anticipated revenue from contracts that are currently in place, the cancellation of those contracts can create financial hardship for the providers. By charging a penalty for early termination, the loss is partially offset, thus creating less of a financial problem for the business.

In a less direct manner, the early termination fee can also prevent the client from making a decision in haste, and possibly finding that the supplier he or she went to offers inferior quality of goods and services. Since a penalty is assessed for ending the contractual relationship, the customers will want to look closely at the reasons why they want to leave, and determine if those reasons are sufficient to incur the penalty fee. Often, instead of leaving, the client will seek to work with the supplier and come to some type of resolution to the issues that prompted the desire to leave, restoring the working relationship to a state of mutual satisfaction and allowing the contract to run all the way to maturity.

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