Should You Buy Points or Pay More Interest Rate?

The interest rate on a mortgage is and should always be quoted with the points you need to purchase to qualify for that particular rate.

In most cases one point is equal to 1% of the amount that you borrow. For example if a lender says that a loan costs 1.5 points they mean that if you take the loan you must pay the lender 1.5% of the loan amount as points. On our $200,000 loan 1.5 points will cost you $3000.

Most of the mortgage lenders will charge you points. However, there are certain mortgage lenders that may offer you a home loan without the requirement of purchasing any points.

However, this does not mean the loan is going to be necessarily cheaper.

Usually there is a trade-off between the points that you purchase and the interest rate you pay on your mortgage loan. The more points you purchase the lower interest rate you qualify for.

Some lenders will push a zero point mortgage rather aggressively. In almost all such cases, their interest rates or other charges are such that they offer no additional benefit.

The question of whether or not you should buy points, or how many you should buy, you need to do a simple calculation that involves how long you intend to stay in your home.

If you intend to stay in your house for several years, making a down payment for the purchase of points will save you money.

If you are constricted for cash during the time of the mortgage or you do not intend to stay in the house for a long time then you may go for a no points mortgage with a higher interest rate.

The bottom line is, the longer you intend to stay in the house, the better it is to get a lower interest rate.

Take the following example. Suppose you borrow $150,000 for a home loan. One lender quotes to 7.25% on a 30 year fixed-rate mortgage and charges 1 point.

Another lender quotes 7.75% which is .5% higher than the first one and doesn’t charge any points.

It is obvious that you will save more money on your monthly payments with the first mortgage that has the points.  

The 7.25% mortgage costs $ $1024 per month and as compared to 7.75% mortgage you save $51 per month.

In order to recover the $1500 that you paid to purchase the point you will have to stay in the home for approximately 29 months.

If you keep the loan for the remaining term of the mortgage, you will save $16,850 with the point purchase mortgage.

In order to make a fair assessment of the different loan programs offered by mortgage lenders, have them provide interest rate quotes in written where the point should also be mentioned.

Make sure that the comparison is done between similar mortgages with same term.

Also, keep in mind the other costs associated with a mortgage such as closing costs, loan origination fee, processing fee etc.