What are mortgage points?
When purchasing mortgage points, you pay the lender a prepayment fee and the interest rate on the loan is lowered. This reduces your monthly payments and the overall amount you pay for the mortgage period. This practice is often referred to as “buying interest rates” or “buying.” Points themselves are sometimes also called “discount points.”
How do mortgage points work?
Generally, discount points on each mortgage will reduce the interest rate on your loan by 0.25 percentage points on the life of the loan. For example, it ranges from 6.5% to 6.25%. In exchange, the lender usually pays 1% of the mortgage amount. For example, if your mortgage is $400,000, one point would probably cost $4,000.
Your lender may rate your points slightly differently. Ask your lender for more details when exploring purchase points.
You can purchase multiple points, or even fractions of points. A half-point on a $400,000 mortgage usually costs $2,000 and reduces the mortgage rate by around 0.125%.
You will have to pay points when it closes. They are called loan estimate documents received within three business days of your mortgage application and closing disclosures received at least three business days before closing your loan.
When you receive your mortgage offer, first make it clear whether you need to pay points with the quote provided. If you can’t get that rate without paying points, you may want to ask for another estimate that doesn’t require them. You can then compare the differences in rates.
Discount points vs origination points
Don’t confuse mortgage points that lower interest rates with the sender points. Origination Points do not affect mortgage interest rates. Rather, it is a fee that the lender needs to create, process and underwrite the loan.
Typically, one origination point corresponds to 1% of your total mortgage. Like discount points, you will pay origination points as part of the closure fee.
Not all lenders will charge original points. Some lenders allow borrowers to obtain loans without reducing or reducing closure costs or origination points. However, in many cases, they compensate for it at a higher interest rate or other fee.
How much can you save by paying mortgage points?
If you can afford to buy discount points in addition to down payments and closing costs, you can cut down on your monthly mortgage payments and save money overall. The key is to stay in a home long enough to regain prepaid interest. If you sell your home just a few years later, refinance your mortgage or pay it back, buying discount points can lead to loss of money.
This is an example of how discount points can be reduced by $400,000, 30 years, fixed-rate mortgage costs.
| No points | With 1 point | With 2 points | |
|---|---|---|---|
| interest rate | 7.0% | 6.75% | 6.5% |
| Points cost | $0 | $4,000 | $8,000 |
| Monthly payments (principal and interest) | $2,661 | $2,594 | $2,528 |
| Total interest paid | $558,036 | $533,981 | $510,178 |
| Total interest savings | $0 | $24,055 | $47,858 |
In this example, by purchasing two points for $8,000, the borrower reduced his monthly payment by $133, saving $47,858 over the life of the loan. However, to save the full amount, the borrower must live in the home for a full 30-year loan period and will never refinance.
How to calculate corruption points
To calculate the points to collect your expenses with prepaid interest, divide the amount you save each month on mortgage points costs. Here is an example:
In this case, the borrower will need to stay at home for about 30 months or 2.5 years to recover the cost of the points.
You can use Bankrate’s Mortgage Points Calculator and Amortization Calculator to know if you’ll save money by purchasing Mortgage Points.
Pros and cons of mortgage points
Mortgage points offer both profits and drawbacks:
Should I buy interest rates using points?
If interest rates are currently higher than in recent years, the idea of purchasing mortgage points may seem more appealing. However, the value of the house is also rising, so we can see that it is broken for over five years in the future. The longer it takes to recover the costs of points, you should consider carefully purchasing them, especially if the rates are heading downwards.
For some, the exercise may not be worth their time or relatively small amounts of monthly savings.
“I’m ambiguous about paying points. It’s hitting me as a lot of extra analysis without any big rewards,” says Jeff Ostrovsky, principal writer at Bankrate. “However, if it’s very important to lower the rate over the life of your loan and you have cash on hand to make it work, go ahead and keep your mortgage long enough to collect upfront costs.”
That said, buying mortgage points is likely to make sense if you mean it.
- Plan to stay home for a long time: Buying points on a mortgage reduces the lifespan of the loan, so every dollar you spend on points will take longer to pay that mortgage. If you plan to stay home for years to come, the amount you save can make a cost worth it.
- Don’t plan for a refinance immediately: Generally, if you plan to refinance at a different rate before destructive points, it is not worth paying for points.
If you are unsure if you need to buy a fee with points, do math. It may make more economical sense to spend money on points to earn a bigger down payment.
