Mortgage points are kind of like free throws in a basketball game. And points are how you win the game, so you want as many as you can get, right? Turns out, these points come at a cost. And it’s not always worth it.
Mortgage points can be super confusing, which makes it really hard to know whether or not they’re a smart choice for you. Are they really a money-saving deal?
Since buying a home is one of the most expensive purchases you might ever make, we’ve found out everything you ever wanted to know about mortgage points. (Lucky for you, we’ve narrowed it down to what’s actually important.)
Getting a mortgage can be an exciting yet stressful time. As a first-time homebuyer, you want to make sure you’re getting the best deal possible on your loan. One way to potentially lower your interest rate is to pay points, but is it worth it? In this article, we’ll explain what mortgage points are, who they benefit, and things to consider before paying them.
What Are Mortgage Points?
Mortgage points, also called discount points, are fees you pay to your lender to lower your interest rate. Each point equals 1% of your total mortgage amount. For example, if you get approved for a $200,000 mortgage, each point would cost $2,000
Points work by allowing you to prepay interest on the loan upfront. In exchange the lender gives you a lower interest rate for the life of the loan. This can save you thousands of dollars over the course of your mortgage.
Who Benefits From Paying Points?
Paying points makes the most sense for certain homebuyers
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You plan on staying in the home long-term: Points only pay off if you keep the mortgage long enough to recoup the upfront cost through interest savings. Generally, you’ll need to stay in the home for at least 5-7 years to break even.
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You qualify for a low mortgage rate: The lower your starting rate, the more impact points have. Each point may lower your rate by 0.25%. With today’s low rates, points have less effect than when rates are high.
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You can afford the upfront cost: Each point costs 1% of the mortgage amount, so you’ll need cash on hand to pay this fee at closing. For a $200,000 loan, two points would add $4,000 to closing costs.
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You have money to put down: The more equity you have, the more worthwhile points become. With at least 20% down, you can avoid private mortgage insurance that makes points less valuable.
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You have excellent credit: Borrowers with high credit scores get the best rates, so paying points saves them more money. You’ll need a score over 740 to get the full benefit.
Think Carefully Before Paying Points
While points can save interest costs, they aren’t right for everyone. Before paying them, consider:
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Your breakeven horizon: Calculate when interest savings from the lower rate offset the upfront cost of the points.
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Your plans to move: If you sell the home or refinance the mortgage before fully recovering point costs, you lose money.
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Your financial situation: Make sure you have savings left over after paying points at closing. Don’t overextend your finances.
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Current mortgage rates: When rates are low, points have less impact on monthly payments, so save your cash.
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Alternatives: Compare points with other options like paying a slightly higher rate while asking for lender credits towards closing costs.
Crunching the Numbers on Points
The mortgage points decision requires careful analysis of your situation. Crunch the numbers to see if points fit your homebuying plans:
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Research current mortgage rates and use a mortgage calculator to see the impact of buying points. Most lenders offer rate quotes listing the cost of points.
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Determine your breakeven time period. Calculate when monthly savings from the lower interest rate covers the upfront point costs.
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Factor in your homeownership plans like how long you’ll keep the home. Don’t pay points if you may move or refinance sooner than the breakeven timeline.
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Compare total interest paid over loan terms. Points save more on a 30-year versus 15-year mortgage due to the longer payment timeframe.
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Review your total closing costs with points versus getting a slightly higher rate with lender credits to cover other fees.
Shop Around to Compare Point Options
The availability and pricing of points vary by lender. It pays to compare mortgage offers:
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Get rate quotes from multiple lenders to compare costs for points and other fees. Aim for at least three quotes.
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Ask your lender for a detailed rate sheet showing all closing costs with and without points. This helps accurately weigh your options.
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Compare not just rates but the dollar amount of total interest paid over time. A slightly lower rate with points could cost more overall.
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Review mortgage rates daily as they fluctuate. Lock your rate when points provide the savings you want.
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Avoid lender fees on top of point costs which reduce the savings you get from paying points.
Weigh the Pros and Cons
As you consider paying points, weigh the key tradeoffs:
Pros
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Lower interest rate saves money each month and over the loan term
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Paying points provides tax deductions for mortgage interest
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Points give you equity in your home right away
Cons
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Points add costs upfront rather than spreading them over your mortgage
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You need to stay in your home long enough to recoup point costs
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Refinancing or moving early means you lose money on paid points
Ask Your Lender About Buying Points
Don’t go it alone when making the points decision. Turn to your mortgage lender for expert advice:
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Ask how many points they recommend purchasing for your situation. Lenders know best if points are worth it based on your loan amount, credit, and plans.
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Get the lender’s breakeven analysis on points so you understand when you would recoup costs.
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Have the lender run the numbers to show whether lender credits provide more savings than points for your mortgage.
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See if the lender offers rate locks so you can secure an interest rate while deciding on points.
Paying Points Can Pay Off with the Right Mortgage
If you’re getting a long-term fixed-rate mortgage, have excellent credit, and plan to keep your home for years, paying points could save you thousands in interest. But you want to be sure points fit your financial situation and homeownership timeline. Crunch the numbers carefully and turn to your lender’s expertise. That way you can make an informed decision on whether points provide the big interest savings that make them worth that hefty upfront cost.
How Do Mortgage Points Work?
After you apply for a mortgage, your lender will offer discount points as a way to lower your overall interest rate. Your point options will be on official home transaction documents like the Loan Estimate and Closing Disclosure. Most lenders allow you to purchase between one to three discount points.
To buy mortgage points, you pay your lender a one-time fee as part of your closing costs.
Should You Pay for Mortgage Points?
It seems odd to say, but buying mortgage points to lower your interest rate could actually be a complete rip off. In fact, most other types of mortgage buydowns (like a 3-2-1 buydown) arent a very good deal either. Say what? How can a lower interest rate be a bad deal?
For starters, it could be years before you really save any money on interest because of your mortgage points. To see what this would look like, you’d first need to calculate what’s known as your break-even point.
Is Buying Mortgage Points Worth It?
FAQ
What is the purpose of paying points?
“Points,” also called loan discount or discount points, describe costs which are a form of prepaid interest. Each mortgage discount point paid lowers the interest rate on your monthly mortgage payments.
Why do people buy points?
Buying points is the same as prepaying interest on your loan, and lenders will give you a lower interest rate in exchange. The lower rate can decrease your monthly payment and, depending on how long you have the mortgage, might save you money overall.
Why might you choose to pay for discount points on Quizlet?
Discount points reduce the stated interest rate on the note and lower the monthly payment to the borrower. It is prepaid interest and a sunk cost that may be charged on conventional, FHA, and VA loans. Discount points increase the yield on the loan.
What is a paying point?
Points are fees paid directly to the lender for processing your loan or reducing your interest rate.
Why should you pay points on a home loan?
Paying points allows you to make a trade-off between your upfront closing costs and your monthly payment. Your closing costs will be higher, however, you can take advantage of a lower rate, meaning lower monthly payments and less paid over the life of the loan. Credits (also known as lender credits) are the opposite of points.
What are points & how do they work?
Points (also known as discount points), amount to a one-off fee paid in addition to your normal closing costs that let you get a lower interest rate. Paying points allows you to make a trade-off between your upfront closing costs and your monthly payment.
Should you pay points if you move again?
If you plan on moving again in just a year or two, it may make sense to avoid paying points and take the higher interest rate. But if you’ll be staying in your new home for several years, paying the points may be the better idea.
Should you invest in mortgage points?
Below are the pros and cons of investing in mortgage points: Compare mortgage rate offers. Start here The biggest reason to buy down your interest rate is to get a lower rate on your mortgage loan, regardless of credit score. Lower rates can save you money on both your monthly payments and total interest payments over the life of the loan.
What happens if you pay 2 points on a loan?
Because they’re prepaid interest, points reduce the interest rate you’ll pay over the life of the loan. A rule-of-thumb is that paying one point will reduce your interest rate by one-quarter percent. So if you paid two points, your rate would drop by one-half percent. Are points tax-deductible?
How much does a mortgage point cost?
The rate reduction per point depends on the mortgage lender and the type of loan. However, as a rule of thumb, a mortgage point costs 1% of your loan amount and lowers your rate by about 0.25%. Let’s look at an example, using a $400,000 mortgage amount: The actual savings and interest rate reduction will vary depending on your loan and lender.