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Mortgages throw us a lifeline when we can’t afford to buy our homes in cash. But however helpful mortgages are, sometimes borrowers have trouble meeting their mortgage repayments. That’s why anything that can reduce your mortgage cost is worth looking at.
You might have come across the term mortgage points if you’ve borrowed a mortgage. And like most people, you’re probably wondering: What are these mortgage points, how do they work, and are they worth your money? Well, today, we’ll be exploring what mortgage points are and how they can benefit homebuyers.
What Are Mortgage Points?
Mortgage points, or discount points, are a fee mortgage borrowers pay to reduce the interest rates on their mortgages. Some lenders may refer to mortgage points as buy-down points; both terms mean the same. Mortgage points help borrowers save a bundle on their mortgages, especially long-term mortgages.
Every point you buy will cost you 1% of your mortgage. Let’s say you borrowed a mortgage worth $100,000. 1% of $100,000 is $1000. That means every point you buy will set you back $1000. You can think of it as paying your interest beforehand to reduce your monthly payments and lower your interest costs.
Every point you buy is equivalent to a set percentage of your interest rate. For instance, some lenders will allow a 0.50% reduction on your interest rate for every point you buy. However, there’s a limit to how many points you can buy with most lenders.
For instance, you take out a mortgage of $250,000. The mortgage has a fixed interest rate of 4.50% with a repayment term of 20 years. The lender grants you an interest rate of 4.0% if you buy a single mortgage point. Since one point will cost 1% of your mortgage, you’ll have to spend $2500 for a point.
If you decide not to take the mortgage point, you’ll repay the mortgage with a 4.5% interest rate per annum. However, if you take the point, you can reduce your interest rate by 0.5% to 4%. Crunch the numbers, and you’ll have saved a whopping $45,000 by purchasing the discount point.
Is Buying Mortgage Points a Good Idea?
First, you should only buy mortgage points if you can afford them. For large mortgages, the points may be too expensive for borrowers. Whether purchasing a point is a good idea depends on your situation and the lender.
Mortgage points are only a good idea if you manage to break even. Breaking even means when the amount you pay for the points equals or is less than how much you save on the mortgage. Do your math to establish whether buying points is a good idea conclusively.
Now that you know what mortgage points are, it’s on you to decide whether they’re right for you. Remember to find a lender with a reasonable point to percentage ratio to save a significant amount.