When you start looking for a home, you usually have certain budget restrictions you are operating under. Whether the amount is the total for a house or a monthly payment you won’t go over, it is best to budget a limit you won’t go over. The recommended payment for a monthly mortgage is approximately 28% of your pre-tax income. One way to lower your interest payment, and in turn your monthly mortgage rate, is something called mortgage points.
What are mortgage points?
At its core, mortgage points are paying money at closing now so that you can save long term on your mortgage loan. When you have a long-term loan, such as a 30-year mortgage, any little difference on your principal loan can amount to more or less money later. Mortgage points are a way to lower your interest rate right now, so you can save more afterward. Depending on the price of the house, a mortgage point is an amount you pay toward the cost of the loan, which will lower the percentage you spend on your mortgage loan.
How much do mortgage points cost?
Mortgage points align with a percentage. One mortgage point is 1% of your mortgage amount. For every $100,000 you would pay $1000. For a $300,000 home, you would pay $3000 for one mortgage point. This $3000 would allow you to pay a quarter of a percent less on your mortgage loan. Over the 30 years of a loan, this can give you significant savings. If you have the means at the time of closing, it is smart to consider using mortgage points.
What are some things to consider with mortgage points?
The most critical thing to think about is how long you will be in the home. With mortgage points, you won’t break even right away. In fact, depending on the number of points you use, it will take longer to break even. If you don’t plan on being in the house at least five years, mortgage points won’t be a good idea. The longer you are in the house, the better mortgage points work.
Better Money Habits showed an example:
Loan Amount: $200,000
0 Points 1 Point 2 Points
Cost per Point 0 $2000 $4000
APR 4.5% 4.25% 4%
Monthly Payment $1013.37 $983.88 $954.83
Monthly Payment Savings N/A $29.49 $58.54
Break Even N/A 68 months 68 months
(time to recover point costs)
Total Payment on 30 year Loan N/A $10,616.40 $21,074.40
As you can see, the time to pay off the points does take a little time, but if you are in the house long terms the savings are significant. For most people, it will take at least 5 to 5 ½ years to break even. After that, your points will start to pay off.
What are some other vital things to consider with mortgage points?
The interest rate for the home are always changing, so the example will vary depending on what you pay on the house, the interest rate, and other factors.
Buying points can be tax deductible. Make sure to talk to a tax professional to find out more.
If you need to decide between putting money down and using mortgage points, run the numbers. Looking at the facts will help you with your decision.
Mortgage points can be a valuable way to save you money for paying for your house. If you know have the money and will be in the house for a while, mortgage points can be right for you.