Buying a home is a huge financial commitment, and most people need to take out a mortgage in order to finance their purchase. Along with all the other factors to consider when taking out a mortgage, borrowers also need to decide whether or not to pay for mortgage points. Mortgage points can be confusing, but understanding what they are and how they work can help you make the best decision for your financial situation.
Mortgage points, also known as discount points, are a way to lower the interest rate on a mortgage. Each point typically costs 1% of the total loan amount and can lower the interest rate by 0.25% to 0.5%. For example, on a $200,000 mortgage, one point would cost $2,000 and could lower the interest rate by 0.25%. Depending on the lender and the terms of the mortgage, borrowers can usually buy up to three points.
Paying for mortgage points can be beneficial for some borrowers, but it’s not the right choice for everyone. In general, paying for points is a good idea if you plan to stay in your home for a long time. The money you spend on points now will be offset by the savings you will have on your mortgage payments over the life of the loan. If you don’t plan to stay in your home for very long, however, paying for points may not be worth it, as you won’t have enough time to recoup your initial investment.
Another factor to consider is your financial situation. If you have the money to pay for mortgage points up front and it won’t put a strain on your finances, then it may make sense to do so. However, if you’re already stretching your budget to make your down payment and closing costs, adding points to the mix may not be feasible.
Another option borrowers have when it comes to mortgage points is to have the points paid by the seller. This is sometimes referred to as a seller concession, and it can be a good way to reduce your out-of-pocket expenses at closing. However, be aware that this may affect your ability to negotiate the price of the home, as the seller will likely take the cost of the points into consideration when setting the price.
So, how do you know if paying for mortgage points is the right choice for you? The best way to determine this is to do the math. Start by getting a quote for a mortgage with no points, and then get quotes for mortgages with one, two, and three points. Use an online mortgage calculator to compare the monthly payments and the total cost of the loan over its lifetime. This will give you a sense of how much you’ll save over time by paying for points, and whether or not it’s worth the initial investment.
For example:
Let’s say you’re getting a $200,000 mortgage with a 30-year term. The interest rate on the no-points mortgage is 3.5%, and the monthly payment is $898. The mortgage with one point has an interest rate of 3.25%, and the monthly payment is $870. If you paid $2,000 for the point, your total cost would be $202,000. If you kept the mortgage for the full 30 years, you’d save about $15,000 in interest compared to the no-points mortgage. This means that you’d recoup the cost of the point in just over eight years.
Of course, this is just an example and the numbers will vary depending on the specific terms of your mortgage. The key is to do your homework and compare your options carefully. Don’t assume that paying for points is always the best choice, and don’t assume that it’s never worth it. Every borrower’s situation is different, and every mortgage is different.
In addition to the math, there are a few other things to keep in mind when considering mortgage points. One is that paying for points does not affect the principal of the loan. It only affects the interest rate. This means that you’ll still need to pay off the full amount of the loan, even if you pay for points. However, lower interest means that more of your monthly payment will go towards paying down the principal, which can help you pay off the loan faster.
Another thing to keep in mind is that mortgage points are tax deductible. If you itemize your deductions, you can deduct the cost of the points on your federal income taxes. This can help offset the initial investment, making it more appealing for some borrowers.
Overall, mortgage points can be a useful tool for borrowers, but they’re not right for everyone. If you’re considering paying for points, take the time to do your research and compare your options carefully. Remember that every borrower’s situation is different, and what works for someone else may not work for you. By carefully weighing your options, you can make an informed decision about whether or not to pay for mortgage points, and be confident that you’re making the best choice for your financial situation.
