When you take a mortgage, the lender may offer to lower your interest rate if you pay some cash upfront, called buying discount points. One point costs 1 percent of the loan and typically shaves a fraction off the rate. It can save real money over the life of the loan, or be a waste, depending entirely on how long you keep it.
Here is how points work and how to know if they are worth it.
How points work
Each point costs 1 percent of your loan amount and buys a permanently lower interest rate, often by roughly a quarter of a percent, though it varies. On a $300,000 loan, one point costs $3,000 and lowers your monthly payment by a modest amount. You pay more at closing in exchange for paying less every month for as long as you hold the loan.
Enter your loan and the offered rates above to see the monthly savings and the upfront cost side by side.
The break-even is everything
The decision comes down to one calculation: divide the cost of the points by the monthly savings, and you get the number of months to break even. Keep the loan past that point and the points pay off; sell or refinance before it and you lose money on them. If it takes 60 months to break even and you plan to move in three years, points are a bad deal.
Points are a bet that you will keep the loan. Win the bet by staying past break-even; lose it by leaving early.
When points make sense
Buying points makes sense when you are confident you will keep the mortgage well past the break-even, you have the cash to pay them without draining your reserves, and you would rather lock in savings than invest that cash elsewhere. They make less sense if you might move or refinance soon, or if the upfront money is better used on your down payment or emergency fund. Note that points are also usually tax-deductible as mortgage interest.
Paying points only to arrive at closing with no emergency fund is a poor trade. Buy points with spare cash, not with money you will need for the home's surprises.
Frequently asked questions
What are mortgage points?
Discount points are upfront fees you pay to lower your mortgage rate. One point costs 1 percent of the loan and typically reduces the rate by a fraction of a percent for the life of the loan.
Are mortgage points worth it?
Only if you keep the loan past the break-even point, where accumulated monthly savings repay the upfront cost. Divide the point cost by the monthly savings to find that month, then compare it to how long you will stay.
How do I calculate the break-even on points?
Divide the total cost of the points by the monthly payment savings. The result is how many months it takes to come out ahead. Keep the loan longer than that and the points pay off.
Are mortgage points tax-deductible?
Points paid to lower the rate on a mortgage for your primary home are generally deductible as mortgage interest, though rules vary. Check current guidance or a tax professional for your situation.
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