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Should You Pay Points on a Mortgage?

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Part of the home loan process involves making difficult financial decisions that you may not fully understand. A common topic of confusion is mortgage points and how they can affect mortgage rates. This is especially true for first time home buyers who may not have considered this aspect of mortgages.

By buying points on a mortgage, you can get a lower interest rate on the life of your loan. However, not everyone will benefit from the points-buying system. There are several factors that can influence your decision to spend the extra money to lower your mortgage interest rate.

Should You Pay Points on a Mortgage?

Understanding Mortgage Points

In essence, when you buy points on a home loan, you are making an upfront payment of a percentage of the loan which is paid at closing. In exchange for buying the point(s), you will receive a reduced interest rate. This allows for a lowered monthly mortgage payment for the borrower. The more money you pay for points, the lower the rate of your mortgage gets.

The discount mortgage points are based on the size of the loan and not the sales price. One point equals one percent of the loan amount. If you had a mortgage loan for $200,000, a point would usually cost $2,000. The percentage amount of loan’s interest rate is typically reduced by a quarter of a percentage point but the point amount will vary by lender and fluctuate based on the bond market. The rules can change from lender to lender, and even change daily, but most lenders allow the borrower to pay for a half of a point to 4 or more discount points to decrease their mortgage rate.

Should You Buy Points?

You will need to estimate the benefits of buying points on your mortgage versus not buying down for a lowered rate. The main factor in determining if points will help you financially is knowing how long you will keep your mortgage. As a rule of thumb, if you plan to sell or refinance your home within two years, buying discount points will not be advantageous. If you are confident you will remain in your home with your current mortgage, you can save a lot of money over time by buying points. If you are planning to sell between the 3 and 9 year marks, you might want to seek out the counsel of your lender to decide if buying points is worth your while.

Different Lenders, Different Rules

If you have already selected a mortgage lender, then determine how they assess points and run the numbers on your loan offer to see how long it will take for you to recoup the cost of points, and how much you might save in the long run. If you are still investigating lenders and are considering purchasing points to reduce your interest rate, make sure you inquire from each loan officer how they assess buying points on the mortgages they offer, and then use that information when comparing mortgage rates and costs. Remember that different lenders play by different rules so figure out what you want from a home loan and then seek out the lenders who offer what you need.

Can You Afford It?

Buying a home is an expensive transaction. Even though the majority of the funds come from a mortgage loan, home buyers still need to pay for an assortment of expenses involved such as moving expenses, utility set up, home insurance, decorating, and so on.

Buying points can lower your interest rate and be a long term benefit. But it is also an immediate expense. Lenders usually require payment for the points at the time of closing – adding to your mortgage closing costs. You want to make sure you can afford the upfront costs of buying points and still cover the rest of the expenses associated with your new home. Calculate the amount of money it takes to settle on the home sale and move. Then consider the additional costs of points buying before making commitments to your lender.


Published or updated July 8, 2010.
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{ 7 comments… read them below or add one }

1 Ace

I won’t attempt to do any math here for fear of hurting myself somehow. But as I understand it, you should be able to calculate the length of time you need to hold the loan for buying points to be worthwhile.

In simple terms, you can determine how much you would save on your mortgage on a monthly basis based on the reduced interest rate from the points. Then you just calculate the number of months that it takes to make up the cost of the points, and in theory that’s how long you need to hold the mortgage before selling or refinancing for the points to begin paying off.

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2 Doug Warshauer

I did the math – I couldn’t help myself! – and calculated the following: using the example of a $200,000 mortgage and 1 point, and assuming the the point reduced your interest rate on a 30 year mortgage from 5% to 4.75%, you would save $30.35 per month. If you held onto the home for five years, you would also have paid off an additional $649.85, due to having the lower interest rate. Essentially, you are investing $2,000 to receive an income stream of $30.35 per month with an additional payment of $649.85 at the end of the 60th month. That equates to a return of approximately 7%.

Is 7% an adequate return on that investment? I think so. It beats paying off your mortgage early – that would only generate a return of 5%.

This analysis is done based on a five year holding period. Your rate of return would continue to grow the longer you keep the home. Since five years is the minimum someone should expect to live in a home they purchase, it seems safe to say that paying points would be a good investment.

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3 Ryan

Interesting way to look at it, Doug. I will definitely consider this when my wife and I apply for our mortgage. Of course, we haven’t sold our current home yet, so it might be awhile! :)

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4 Charles

I discovered that excel had a template that calculates the amortization schedule. So just enter your parameters and see how long it will take for the point to pay for itself.

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5 Ryan

You can also download a Free Excel Mortgage Calculator from Vertex42. I think this mortgage calculator is very capable. :)

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6 PT

I’ll more than likely buy points on my next mortgage as that will be the last one for a very long time. Although it seems crazy that you’d buy points on a 4.5% loan. Can you get it below 4 I wonder?

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7 basicmoneytips

PT, there is a program to buy down lower than 4. Check out NACA

Its not for everyone so you have qualify and also go thru some of there classes. Traditionally it is for first time home buyers but I think repeat buyers can also participate.

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