What’s the Point of Points
Shopping for a home comes with many considerations, not the least of which is finding the right mortgage. One aspect that is often unfamiliar to homebuyers is how an optional fee, referred to as buying points, can impact the immediate and long-term mortgage costs.
While it may seem like another complicated decision to worry about, determining whether to buy points is a relatively straightforward calculation. Use this rundown on a unique feature of mortgages to inform your next conversation with a lender.
Mortgage discount points are prepaid interest due at closing in exchange for a lower interest rate on the loan. Traditionally, one point costs one percent of the total loan value and reduces the interest rate by .25 percent. For example, a 3.5 percent interest rate on a $200,000 mortgage can be cut to 3.25 percent if the borrower was willing to pay an additional $2,000 upfront.
Discount points should not be confused with what are sometimes called origination points, the fees a lender charges for processing the loan. The former is not required to obtain a mortgage but can be attractive to some homebuyers. Lenders may also allow their customers to buy multiple points or even half points.
Since points are a trade-off between cash at closing and the loan’s interest rate, it’s not hard to calculate how long it will take to break even and ultimately benefit from the purchase. Start by determining how much the rate reduction will reduce your monthly payment. Dividing the point’s cost by that monthly savings will tell you how many months it will take to recoup the initial cost.
The larger your loan and the higher your rate, the more quickly you can see real savings from purchasing points. However, in most cases, you will find that it takes five to seven years to see the upside of buying down your interest rate. Because of this, points benefit buyers that will be staying put for a significant amount of time.
Keep in mind that buying points may not be the most efficient way to a low interest rate, particularly in the current economic climate where rates are already near historic lows. Paying careful attention to your credit report and avoiding any mistakes that would be detrimental to your credit score is the best way to ensure you’re getting the benefits of a low rate.
It’s also important to consider other ways to make the most of your available cash. While discount points can save you money in the long-term, they won’t add any equity to your home. Increasing your down payment or upgrading your house after purchase is another route that can reduce interest charges and maximize home equity. Investing the funds or adding to your emergency fund could also be an alternative worth exploring.
Regardless of your circumstances, finding a mortgage that fits your finances begins with your lender. It requires one with the experience and patience to explain all of your options. Visit OpenMortgage.com for a complete collection of resources, or call today to speak with a representative you can trust.