The term “points” is one of the most common terms when it comes to mortgage jargon, and to explain them in just a few words, points are the fee that consumers pay to reduce their mortgage interest rate. A point is equivalent to one percentage point, hence the name; for example, if you’ve got a loan valued at $300,000, one point would be equal to $3,000, while two points would be worth $6,000, and so on.
Understanding Mortgage Points
Now, that you know what points are at their essence, here’s why you should pay close attention to them and fully understand how they work. It’s a common misconception that there are some financial institutions that charge mortgage consumers with points, and others that don’t. There are even some consumers who believe they’ll be getting a free ride by paying no points whatsoever. Both assumptions are wrong. Points are considered rate-versus-fee products, and lenders offer several alternatives to their prospective customers as far as points are concerned. For instance, paying zero points means your interest rate would be 6 percent. Paying half a point knocks the rate down to 5.875 percent, and paying two points would reduce it to only 5.5 percent.
How to Decide If I Should Pay Points?
It’s no surprise that lenders traditionally don’t tell their customers about points, as they expect that they wouldn’t want to pay any points to begin with. This is what makes it important for you, as a home buyer, to ask questions; if you don’t ask your lender about points, they will invariably talk about the option with no points, and that option alone. Asking some questions would sometimes force the loan representative’s hand, but only as far as them offering a one-point option. Be persistent, and don’t be afraid to ask for all of your options. If the lender still refuses to cooperate, then that’s a surefire sign that you’re better off doing business with somebody else. Again, there’s nothing wrong with demanding to know all of your options.
Aside from the rate and the points, there is another column in the literature that lenders show to their customers when they ask for information on points. That column is the break-even period, which refers to the number of years you’ll be getting your money back assuming you pay points. Assuming you’re paying $1,000 for one point in order to reduce your annual interest payments by $250. Dividing the former figure by the latter, you’ll get four years as your break-even period. That’s just a very basic example, but since you’ll be saving that $250 per year throughout the entire life of the loan, you can save far more than a thousand dollars, thus making that $1,000 payment for one point really worth it at the end of the day.
So there you have it – that’s our basic explanation of mortgage points, what they mean, and how they work and how they can save you money. So if you’re planning to shop for a mortgage, be sure you don’t leave out mortgage points when quizzing prospective lenders about what’s in it for you.