Mortgage Points: Should You Pay These Optional Fees?

Mortgage points are fees you pay to reduce your mortgage interest rate and monthly payment.
Hal M. Bundrick, CFP®
Holden Lewis
By Holden Lewis and  Hal M. Bundrick, CFP® 
Reviewed by Michael Soon Lee

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What are mortgage points?

Mortgage points are fees you pay a lender to reduce the interest rate on a mortgage. Paying for discount points is often called “buying down the rate” and is totally optional for the borrower.

As you search for the lender with the best offer, be careful when looking at mortgage rates advertised online. When you read the fine print, you may find that one, two — or even three or more — discount points have been factored into the rates.

Discount points are totally optional. You'll want to find out what a lender's rate is without adding a bunch of upfront fees.

How much does one mortgage point reduce the rate?

When you buy one discount point, you’ll pay a fee of 1% of the mortgage amount. As a result, the lender typically cuts the interest rate by 0.25%.

But one point can reduce the rate more or less than that. There’s no set amount for how much a discount point will reduce the rate. The effect of a discount point varies by the lender, type of loan and prevailing rates, as mortgage rates fluctuate daily — so it makes sense to shop around.

“Buying points” doesn't always mean paying exactly 1% of the loan amount. For example, you might be able to pay half a point, or 0.5% of the loan amount. That typically would reduce the interest rate by 0.125%. Or you might be given the option of paying one-and-a-half points or two points to cut the interest rate more.

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How do mortgage points work?

Paying discount points reduces the interest rate and therefore the monthly payments. Your monthly savings depends on the interest rate, the amount borrowed and the loan's term (whether it's a 30-year or 15-year loan, for example).

The table below illustrates the monthly savings from paying one or two discount points on a $200,000 mortgage with a base interest rate of 5% and a 30-year term. Without discount points, the monthly principal and interest is $1,073.64. The monthly payments are lower after reducing the rate by paying one or two basis points.

Should you buy points?

If you can afford them, then the decision whether to pay points comes down to whether you will keep the mortgage past the "break-even point."

The concept of the break-even point is simple: When the accumulated monthly savings equal the upfront fee, you've hit the break-even point. After that, you come out ahead. But if you sell the home or refinance the mortgage before hitting break-even, you lose money on the discount points you paid.

The break-even point varies, depending on loan size, interest rate and term. It's usually more than just a few years. Once you guess how long you'll live in the home, you can calculate when you’ll break even.

Are discount points worth it?

It may make sense to pay discount points when you’re buying a long-term investment property or a home you plan to hold for many years, says Ann Thompson, a retail sales executive at Bank of America, because you’ll save after breaking even.

Here’s an example from Thompson to help demonstrate how long it can take to benefit from buying a point. Say you’re taking out a $400,000 loan. One discount point would cost $4,000 paid at closing; assume you can afford that on top of your other closing costs.

Based on mortgage rates the day she was interviewed, Thompson said buying a point would save roughly $57 a month on that $400,000 mortgage. By dividing the cost of the point ($4,000) by the monthly cost ($57), you determine how many months it would take you to make up the cost of buying the point. In this example, it’s about 70 months, or almost six years.

That means if you planned to stay in the home for six years, you’d break even, and any longer than that, you’d save money. But if you moved out before then, you’d have lost money by buying points.

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Can you negotiate points on a mortgage?

Yes, you can. Lenders may add discount points to your loan offer in order to make their rate look lower — even if you didn't ask to buy discount points. In fact, when shopping lenders, it's a good idea to ask for a loan offer with zero points. That way you can compare one lender to another on an equal basis.

You can always decide to buy discount points after you choose the mortgage lender you'll be doing business with.

Can you buy discount points after closing?

No, the terms of your loan are set prior to closing. When you sign that towering stack of paperwork, the deal is done.

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Can the home seller pay your discount points?

Yes. In a buyer's market, it's not unusual for sellers to offer to pay the purchaser's discount points. In this case, you'll save money from the beginning, and there's no need to calculate your break-even point.

Are mortgage points tax deductible?

If you itemize your tax deductions, rather than taking the standard deduction, you may be able to deduct the points you paid on a mortgage for your primary residence. The deduction may be limited by the amount you borrow to buy the home.

You may even deduct mortgage points paid by the seller on your loan. Ask a tax advisor for details.

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