Mortgage Points: Should You Buy Down Your Rate?

Mortgage points — also called discount points — allow you to prepay interest at closing in exchange for a lower interest rate on your loan. Each point costs 1% of the loan amount and typically reduces your rate by approximately 0.25%. Whether buying points makes sense depends on how long you plan to keep the loan and whether you have the cash available at closing.

How Discount Points Work

When you buy discount points, you are essentially paying interest upfront to reduce your monthly payment for the life of the loan. Here is a concrete example:

• Loan amount: $350,000
• Rate without points: 7.00%
• Cost of 1 point: $3,500 (1% of $350,000)
• Rate with 1 point: 6.75%
• Monthly payment without points: $2,329 (principal and interest)
• Monthly payment with 1 point: $2,270 (principal and interest)
• Monthly savings: $59

In this scenario, you pay $3,500 upfront to save $59 per month. To determine if this is a good deal, you need to calculate the break-even point.

Calculating Your Break-Even Point

The break-even point is the number of months it takes for your monthly savings to recoup the upfront cost of the points:

Break-even = Cost of points / Monthly savings

Using our example: $3,500 / $59 = approximately 59 months, or just under 5 years. If you keep the loan for more than 5 years, buying points saves you money. If you sell, refinance, or pay off the loan before that, you lose money on the deal.

When Buying Points Makes Sense

• You plan to stay in the home long-term: If you are buying your forever home or plan to stay at least 7 to 10 years, the cumulative savings can be substantial.
• You have extra cash at closing: Points only make sense if the money you spend is not coming at the expense of your emergency fund, retirement savings, or other critical financial goals.
• Rates are relatively high: In a high-rate environment, the monthly savings from buying points are larger, which shortens the break-even period.
• You want to maximize your tax deduction: Mortgage points paid at closing are generally tax-deductible in the year they are paid (for purchase mortgages). Consult a tax professional for your specific situation.

When Buying Points Does Not Make Sense

• You might move or refinance within a few years: If there is a reasonable chance you will sell the home or refinance within the break-even period, the upfront cost is wasted.
• Your cash is better used elsewhere: If you are stretching to make the down payment, spending additional money on points could leave you financially vulnerable.
• You could invest the money instead: The $3,500 spent on points could potentially earn more in an investment account than the interest savings from a lower rate, depending on market returns.

Origination Points vs. Discount Points

Do not confuse discount points with origination points. Origination points are fees charged by the lender for processing your loan — they do not reduce your interest rate. When comparing Loan Estimates from different lenders, make sure you understand which points are origination fees and which are optional discount points. Some lenders bundle these together, making their rate appear lower without clearly disclosing the upfront cost.

Negotiating Points

Points are negotiable. Here are some strategies:

• Compare quotes with and without points: Ask each lender for rate quotes both with and without points so you can make an apples-to-apples comparison.
• Consider partial points: You do not have to buy a full point. You can buy 0.5 points or even 0.25 points, paying proportionally less upfront for a smaller rate reduction.
• Ask about lender credits: The opposite of points — the lender gives you a credit toward closing costs in exchange for a slightly higher rate. This is essentially negative points.
• Negotiate seller-paid points: In some transactions, you can negotiate for the seller to pay for discount points as part of their concessions.

Whether to buy points is a mathematical decision that depends on your specific numbers. The loan officers at Home Financial Group can calculate the exact break-even for your situation and help you decide whether buying down your rate makes financial sense.