Recently, I applied for and got a mortgage loan. Like most people, I needed to borrow to buy a home, so I shopped around to compare offerings, chose a lender, and applied. Unfortunately, like everyone else buying a house right now, I wasn’t offered a favorable rate on my loan since rates are very high right now.
Since I need to buy and the payments coming out of my checking account would still be affordable, I took the loan even though the rate is way higher than I would prefer. My lender offered me the chance to reduce the rate by buying points, but I opted not to. Here’s why I didn’t choose to lower my rate even though I was disappointed with the amount of interest I’ll be paying.
Here’s why I didn’t buy points on my mortgage
There’s a simple reason why I opted out of reducing my rate by buying points. I will likely not keep my loan long enough for it to pay off.
To understand why, you need to understand how mortgage points work. When you pay a point, you essentially prepay some interest. Each point costs you 1% of the loan amount. So, for example, if you are borrowing $200,000, a point would cost you $2,000. And each point lowers the rate on your loan by 0.25%. Paying one point could lower your rate from 6.50% to 6.25%.
If you keep your mortgage for a long time, eventually you’ll save more than the $2,000 the initial point purchase cost you because you’ll have a lower rate for the life of the loan. You’ll enjoy lower monthly payments and lower total interest costs over time. But, that’s a big if. If you end up refinancing (or selling your home) before your interest savings add up to at least the cost you paid upfront, you’ll end up worse off for having purchased points.
I don’t plan to keep my loan for a long time. I believe rates will go down in the coming years, and I will refinance my mortgage as soon as they do. With this mindset, it simply was not worth paying points when I got my loan.
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Do the math before you buy points
If you want to decide if buying points is right for you, you should always do the math. This means figuring out:
- What the point costs you upfront.
- How much you save by paying for the point (as calculated by how much lower your monthly payment will be at the lower rate the point buys you).
- How long you have to keep the loan for the savings to make paying the point worth it.
Say, for example, you’re thinking of borrowing $200,000 like in the example above using a 30 year loan at 6.50%, and you’re trying to decide if you should buy a point to bring your rate down to 6.25%.
The cost to buy a point would be $2,000, but your monthly payment after buying them would be $1,231 per month instead of $1,264 per month if you bought no points and kept the 6.50% rate. You’d save $33 per month thanks to buying points so you’d divide $2,000 by the $33 in monthly savings. You’d break even in about 61 months, or 5.1 years.
You can use any online mortgage calculator to compare the difference in principal and interest payments for a loan with and without points, and you can easily figure out what a point would cost by just taking 1% of your loan amount. If you do this simple calculation and then think about how long you plan to keep your loan, you can decide if buying points is right for you.