Mortgage points, also referred to as discount points, are a form of prepaid interest that homeowners can purchase to lower their mortgage interest rates. Essentially, they are an upfront charge that the homeowner provides to the lender during the closing process, which in return secures a lower interest rate during the life of the loan.
This concept, although common in the real estate industry, may seem complex to first-time homebuyers or those unfamiliar with mortgage terms. This article aims to demystify the concept of mortgage points and help potential homeowners make informed decisions.
What Is a Mortgage Point?
A mortgage point is equivalent to 1% of your mortgage amount. So, if you’re taking out an $800,000 loan, one point would cost $8,000. When you buy a point, it reduces your interest rate, typically by about 0.25%. Therefore, buying additional points results in a deeper reduction in your interest rate. However, this doesn’t necessarily mean that buying points is always beneficial. The benefit gained from purchasing points is largely contingent on the duration you intend to reside in your house.
The Break-Even Point
Prior to making a decision on the purchase of mortgage points, homeowners must determine their break-even point – the stage at which the monetary benefits from a reduced interest rate surpasses the expense of the points.
Typically, this is calculated by dividing the total cost of the points by the monthly savings garnered from the reduced interest rate. If you plan to stay in your house beyond this break-even point, buying points could be a good investment.
Advantages of Buying Mortgage Points
Lower Interest Rate
One of the most significant advantages of buying mortgage points is the potential for a lower interest rate on your mortgage loan. Usually, each point purchased results in a reduction of your interest rate by approximately 0.25%, possibly leading to significant savings throughout the term of your loan.
Reduced Monthly Payments
A reduction in your interest rate could also result in a decrease in your monthly mortgage payments. This reduction may make homeownership more affordable on a month-to-month basis and free up money for other expenses or investments.
Tax Savings
An additional benefit of purchasing mortgage points is that they can be deducted from your taxes. This benefit can provide additional savings for homeowners.
The decision to buy mortgage points should be based on your financial situation, your long-term housing plans and your break-even point. Seeking advice from a financial expert or mortgage consultant can also be advantageous in making this decision. Remember, understanding the ins and outs of mortgage points can help you make the choice that fits your unique circumstances. Talk to us today to see if buying mortgage points can benefit you.