Mortgage Points: What are they?
What does it mean to have points on your mortgage?
If you’re in the market for a new home, you may hear your lender refer to having or adding points on your mortgage. If you’ve never been in that position before, this could sound a bit odd at first. You might be wondering what game you stumbled into to be accruing “points”. While we can’t confirm (or deny) the existence of an industry-wide home finance game, we can at least explain the “points”.
What Are Mortgage Points?
Mortgage Points, sometimes referred to as “discount points”, are fees paid to the lender directly at closing in order to reduce the interest rate and the monthly payment. The act is also known as “buying down the rate”.
One mortgage point is typically 1% of your mortgage amount. That means that a mortgage point for a $100,000 mortgage would equal $1000, and one point for a $200,000 mortgage would be $2000. The money is put towards interest payments, not the principal amount, so you will still owe the loan amount, but you would be able to pay it back at a lower interest rate.
How Do Mortgage Points Affect Your Mortgage?
As we mentioned earlier, purchasing a mortgage point has no effect on the principal amount that you owe. Instead, it directly influences the interest rate that you are charged. To that effect, many people regard mortgage points as prepaid interest.
Purchasing one mortgage point (Worth 1% of your mortgage amount) generally lowers your interest rate by .25%. That means that buying 2 points on a $200,000 mortgage with a 5% interest rate will mean paying $4000 (at $2000 per point) more at closing and walking away with a reduced interest rate of 4.5%.
As you can see, when the cost of each point is taken into consideration, it may not be worth the cost to see such a small reduction in interest unless you are planning to live at the property long enough to at least break even. This would allow you to make back the cost of the point on your investment.
Closing costs can be a mighty hurdle to jump for even the savviest home buyers. Paying mortgage discount points, while helpful in the long run, only increases those costs. At the end of the day, it is up to you to decide if buying mortgage points is the right move for you. Of course, the team at home.loans is standing by to educate you and assist you in making your best home buying decisions.