Conventional 97 Loan Guide — Home.Loans

Understanding Mortgage Points — Home.Loans

The mortgage process is as long and intricate a process as they come. Anyone who has bought a house and went through the motions to get their first home can tell you, it is not an in and out deal. At the tail end of the process, closing your mortgage loan can be arduous, but it is during closing that much of the most important parts of your mortgage loan deal takes place.

Aside from all of the paperwork and closing costs, closing is also a home buyer’s last chance to get a lower interest rate on their new home loan. Many borrowers who don’t fit into the first time home buyer category have discussed mortgage points with their lenders at closing. While purchasing mortgage points means forking out more cash at closing, they help reduce the amount of money you’ll need to come up with for those pesky monthly payments.

So what are mortgage discount points? Let’s take a closer look.

Mortgage Point Basics

Mortgage points, sometimes known as discount points, are prepaid portions of interest on your home loan that when purchased, reduce your monthly interest rate. To put it another way, they are fees paid to a lender at closing in exchange for lower interest, and by extension, a lower monthly payment.

It is common practice in the home finance industry to refer to the purchasing of mortgage points as “buying down the rate”. While it is a great way to knock down the interest rate, it does require more upfront money at closing, which is already a sore spot for many home buyers. Besides which, purchasing mortgage points isn’t always worthwhile for every home buyer, but we’ll go into more detail on that later.

Read about:   Student Loan Calculator (2020) - Estimate Your Loan Repayment

What is a Mortgage Point?

One mortgage point is typically worth 1% of the total loan amount. Simplified, it amounts to $1,000 for every $100,000. A savvy home buyer can already see how purchasing multiple points can drastically raise closing costs. For example, a home worth $200,000 would mean one mortgage point costs $2,000! So how do these points affect your rate of interest?

Generally speaking, purchasing one mortgage point reduces your interest rate by .25% (actual amounts may vary depending on the lender, so keep in mind that this is not a set statistic, it is just the most commonly used increment).

Therefore, If you have an interest rate of 3.75%, and purchase one mortgage point, then your interest rate would decrease to 3.5%. Purchasing two points would lower the rate to 3.25%, and so on and so forth. Lenders typically allow the purchase of up to three discount points.

Negative Mortgage Points

Sure, mortgage points are pretty common. What many home buyers don’t know, is that negative mortgage points also exist. Sometimes referred to as rebates or yield spread premiums, negative mortgage points work like regular mortgage points, with a slight twist.

With negative mortgage points, the lender pays some of the fees associated with your home loan in exchange for a higher rate of interest that you must be responsible for. The value of a negative mortgage point remains the same as with its positive counterpart. As does the increments of interest by which your rate will increase.

For example, if the lender pays $2,000 worth of fees for you on a home loan worth $200,000 (one mortgage point), then the interest rate on the home loan would increase by .25%.

Read about:   What are the Repayments on a £200000 mortgage?

Negative mortgage points are perfect for home buyers who have trouble coming up with the money to cover a down payment or any other fees due at closing. Having the lender handle some of those fees can greatly reduce the out of pocket expenses that many home buyers face. The catch is that your monthly mortgage payments will be more than they were originally supposed to be.

When Purchasing Mortgage Points Makes Sense