Getting the right home loan is challenging in any market, but especially now. A question that I often get relates to points. Many people have it in their mind that they will not pay any points (like it is a moral belief or something). Most people simply don’t understand how points work and therefore take whatever the mortgage broker or loan officer tells them to take.

A point, by definition, is 1% of the loan amount. So 1 point on a loan of $300,000 will be $3,000 ($300,000 x 1%) and 1.5 points on the same loan would be $4,500.

Points should be thought of as a fee that is paid to the lender in order to lower the interest rate on the loan. (This can also work in the opposite direction, but I will talk about that below.)

Let’s say that the current market rate, with no points, is 4%. You may have the option to pay 1 point and get a rate of 3.75% on your loan.

If you are getting a $300,000 loan for a 30-year period, then your monthly mortgage payment at 4% would be $1,432.

If you got the same loan with a rate of 3.75% then your monthly mortgage payment would be $1,389.

This means that you save $43 per month for the life of the loan and you save about $15,480* in interest over the life of the loan if you kept the loan for the full 30 years. Now you have to remember that the point cost you an additional $3,000 up front.

The real key to deciding whether you should pay the point is how long you expect to keep the loan. Notice that I said how long you expect to keep the loan, not the house. You may have the house for many years, but refinance the loan one or two times before you sell it. A good mortgage broker will be able to tell you whether paying a point is worth it for you. Generally speaking, you have to keep a loan for at least 6 years in order to have paying points make sense.

Getting a Point.

Generally points are thought of as something that a borrower has to pay in order to get a lower rate. However, it is possible for a borrower to accept a higher interest rate in order to receive a point from the lender.

Let’s take the previous example of the no point market rate of 4%. If the lender is offering to pay you a point if you accept a rate of 4.25% then you may be better off.

Again, if you are getting a $300,000 loan for a 30-year period, then your monthly mortgage payment at 4% would be $1,432.

If you got the same loan with a rate of 4.25% then your monthly mortgage payment would be $1,476.

This means that you pay about $44 per month more for the life of the loan and you pay about $15,840* more in interest over the life of the loan if you kept the loan for the full 30 years. Now you have to remember that the lender gave you an additional $3,000 up front to help pay for some of your transaction fees.

Whether you should pay a point or get a point is a matter of what your needs are.

If you want to keep your payment as low as possible, then you should pay a point or a few points. This will cost you more up front, but will save you each month in your monthly payment and will save you interest over the life of the loan.

However, if you don’t have a lot of savings and would rather have a little extra in your pocket then you may want to have the lender pay you a point. This will reduce your initial expenses in the loan transaction costs, but will cost you a little more each month and will cost you more in interest over the life of the loan.

Key takeaway – make sure you have a mortgage broker and real estate broker who can explain how points will impact your individual situation and never except someone telling you that you HAVE TO pay a point. You have options and should be aware of what is out there.

*This is the nominal amount and does not consider the time value of money.