Neighborhood Overview High Angle

What Are Points On A Mortgage And Are They Worth It?

4-Minute Read
Published on May 27, 2022
Share:

If saving money on interest payments sounds appealing, mortgage points could be what you’ve been looking for. Although you’ll have to pay for these points upfront, you can save money in the long term.

Let’s take a closer look at everything you need to know about money points.

Apply Online with Rocket Mortgage

Get approved with Rocket Mortgage® – and do it all online. You can get a real, customizable mortgage solution based on your unique financial situation.

Apply Online

What Are Mortgage Points?

Mortgage points, sometimes called discount points, offer an opportunity to lock in a lower interest rate on your loan. Essentially, you’ll pay an upfront fee to unlock a lower interest rate on a home purchase or refinance.

The points are paid at closing. When borrowers buy mortgage points, the lender can offer a lower mortgage interest rate. The lower rate leads to a smaller monthly payment. Plus, the borrower can potentially save thousands in interest over the loan’s term.

Discount Points Vs. Origination Points

Both discount points and origination points are costs due at closing. But that’s where the similarities end.

Discount points are an optional purchase you can make to lower your interest rate. Essentially, discount points act like prepaying mortgage interest. Since mortgage interest is tax-deductible, it’s possible to subtract this cost from your taxes.

On the other hand, origination points are fees charged by the lender to finalize your loan.

How Do Mortgage Points Work?

Mortgage discount points are all about playing the long game. The longer you plan to own your home, the more points can help you save on interest over the life of your loan.

One discount point will cost you 1% of your home loan amount. So, with a $150,000 loan, a single mortgage point would cost $1,500. Each discount point you buy will lead to a set interest rate deduction. Usually, you can buy points in 0.125% increments. But the amount your interest rate will be reduced varies based on the lender.

Importantly, adjustable-rate mortgage (ARM) buyers have the option to buy mortgage points for the fixed-rate period of their loan. But since most ARMs start to adjust at the 5- to 7-year mark, many ARM home buyers skip this option.

The Costs And Savings With Mortgage Points

The goal of purchasing mortgage points is to save money on mortgage interest payments.

If you’re considering an upfront purchase of mortgage points, it’s important to run the numbers to look at exactly how long it would take to recoup the cost of purchasing points. Typically, this is called the breakeven point.

You’ll want to make sure you plan to own the house until the breakeven point. Otherwise, it won’t be worth it to buy mortgage points.

Let’s explore an example of how discount points work on a $150,000, 30-year fixed-rate mortgage. You can use an amortization calculator to make your own comparisons based on different loan amounts and interest rates.

Points

Cost at Closing

Interest Rate

Monthly Payment

Monthly Payment Savings

Break-Even Period

Payment Savings on 30-year Loan

0

$0

4.99%

$804.32

N/A

N/A

N/A

1.25

$1,875

4.75%

$782.47

$21.85

7 years, 2 months

$7,866

1.75

$2,625

4.5%

$760.03

$44.29

5 years

$15,944.40

2

$3,000

4.25%

$737.91

$66.41

3 years, 10 months

$23,907.60

 

As you can see from the chart above, even though 1.75 points costs $2,625 upfront, you will end up saving $15,944.40 over 30 years because of the lower interest rate. And even if you don’t stay in your home for 30 years, you’ll breakeven in about 5 years.

In this example, if you’re planning on living in your home for more than the breakeven period, mortgage discount points could be a money-saving option.

It’s important to note that the numbers in the above example are hypothetical. The rate given for a certain number of purchased mortgage points varies by lender. Additionally, these calculations don’t include property taxes and insurance.

Determine Your Breakeven Point

To calculate the breakeven period, divide the cost of the points by how much you’ll save on your monthly payment. This will give you the number of months it will take for the monthly payment savings to equal the upfront costs of buying points.

Compare your breakeven point to your home buying plans. If you intend to live in the home past the breakeven point, mortgage points might be an easy decision.

Is Buying Mortgage Points Worth It?

As current market trends continue to indicate rising interest rates, mortgage points will grow in importance for borrowers. While mortgage discount points are an excellent choice for some borrowers, they’re not right for everyone.

The amount of time you plan to live in your home is a critical factor. If you’re a wandering soul and you only plan to live in your house for a few years, it’s probably a better decision to pay lower closing costs and higher monthly payments. But if you plan to stay past the breakeven point, then mortgage points represent an opportunity to save.

Additionally, you’ll need to consider how much money you have on hand for closing. If you are looking to avoid private mortgage insurance (PMI), which can cost about 1% of the loan amount, you’ll need to put at least 20% down.

If it’s between discount points and boosting your down payment to 20% or over, you’ll want to choose the down payment most of the time. Always do the math and consider if your discount points are costing you more or less than your monthly PMI fees.

Still on the fence? Weigh out the pros and cons.

Pros Of Mortgage Points

Mortgage points offer borrowers several advantages:

  • Lower interest rate: Buying mortgage points will lower your interest rate, which leads to a lower monthly payment.
  • Tax-deductible: Mortgage points can be tax-deductible.
  • Long-term homeowners benefit: Savings opportunities for buyers who plan to live in the home past the break-even point.

Cons Of Mortgage Points

But there are also some disadvantages to consider:

  • Increased closing costs: The cost of mortgage points is due at closing.
  • Short-term homeowners could miss out: Buyers who don’t live in the home past the breakeven point could lose money on this decision.
  • Increased interest rate: The higher interest rate means higher monthly payments and more interest paid over the loan term.

The Bottom Line

Home buyers considering mortgage points should start by looking at their long-term life plans. A reasonable estimate of how long you’ll live in the home is a critical piece of the puzzle when weighing out the costs of mortgage points.

If you aren’t sure about mortgage points but want to secure the best possible mortgage rate, then connect with a Home Loan Expert to learn more.

 

Error rendering content unit:*[@Name='CTABlock_Unit']

The partial view 'Components/CTABlock_Unit' was not found or no view engine supports the searched locations. The following locations were searched: ~/Views/_AssetViews_/Omni/Components/CTABlock_Unit.cshtml ~/Views/_AssetViews_/Omni/Components/CTABlock_Unit.vbhtml ~/Views/_AssetViews_/Shared/Components/CTABlock_Unit.cshtml ~/Views/_AssetViews_/Shared/Components/CTABlock_Unit.vbhtml ~/Views/Omni/Components/CTABlock_Unit.cshtml ~/Views/Omni/Components/CTABlock_Unit.vbhtml ~/Views/Shared/Components/CTABlock_Unit.cshtml ~/Views/Shared/Components/CTABlock_Unit.vbhtml

See What You Qualify For

Sarah Sharkey

Sarah Sharkey is a personal finance writer that enjoys helping readers learn more about their finances. She has an MS in Business Management from the University of Florida. You can connect with her on LinkedIn or Instagram @adventurousadulting.