Understanding Mortgage Points and How They Affect Your Rate

When you receive a mortgage loan estimate, you will likely see a line item called discount points. Many borrowers overlook this, but understanding mortgage points can help you make a smarter financing decision and potentially save tens of thousands of dollars over the life of your loan.

What Are Mortgage Points?

One mortgage point equals 1% of your loan amount. On a $350,000 mortgage, one point costs $3,500. Discount points are prepaid interest you pay at closing to permanently reduce your interest rate — typically by 0.125% to 0.25% per point. Origination points, by contrast, are fees the lender charges for processing your loan and do not reduce your rate.

The Break-Even Calculation

Paying points makes financial sense only if you stay in the loan long enough to recoup the upfront cost through lower monthly payments. Break-even months equals the upfront cost of points divided by the monthly payment savings. Example: On a $400,000 mortgage, paying 2 points ($8,000) drops your rate from 7.25% to 6.75%, reducing your monthly payment by approximately $132. Break-even: $8,000 divided by $132 equals about 60 months, or 5 years.

When Buying Points Makes Sense

Points are most valuable when you plan to stay in the home for a long time, when rates are relatively high, and when you have cash available beyond your down payment and reserves. Points are also worth considering if you want to reduce your monthly payment as much as possible.

Negative Points: Lender Credits

The inverse of buying points is accepting lender credits. The lender pays some of your closing costs in exchange for a higher interest rate. This makes sense when you are cash-constrained at closing and plan to sell or refinance within a few years. The higher rate is effectively an installment payment plan for those closing costs.

Use our mortgage calculators to model different rate and points scenarios, or contact us to get a personalized analysis based on current market rates.