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Refinance

Discount Points

Discount Points are different than origination fees, and are a source of confusion.  When shopping for a loan, you have many options when deciding to pay discount points. Discount points can lower your payment. Discount points are used to buy down the interest rates, temporarily or permanently. Email discount points questions.

Discount points are calculated as a percentage of the loan amount.  For example, 1 discount point for a $100,000 loan would be $1000, and ½ discount points would be $50.

Discount points are part of your closing costs, they are not considered loan fees.  Discount Points are an optional way to buy the interest rate down.  The lower the interest rate, the more discount points you will have to pay.

The table shows how different interest rates and discount points are shown.  This example is for a $100,000 loan.  To get a loan rate of 7.25%, you would not pay any discount points; however, to get a rate of 6.75%, 1.75 discount points would be required.

Break Even Analysis

When considering whether or not to pay discount points on your mortgage, use a Discount Points Break Even Analysis.  By paying discount points and obtaining a lower rate, you will have a lower payment.  This analysis will help you decide whether the monthly savings is worth the cost of the points.

In the same example above, a $100,000 loan at 7.25% for 30 years has a monthly payment of $682. If you pay 1.75 points ($1750), your rate would be 6.75% and your payment would be $649.  This represents a monthly savings of $33.  You would have paid $1750 at closing to save the $33 per month.  It would take 53 months (4 ½ years) to recoup your investment or "break even". The question to ask yourself is if you will be in the home that long. If so, it may make sense, if not, it is a bad investment

What to Consider

Using the Break Even Analysis, take the following into consideration when deciding how much to pay:

You should pay zero or close to zero if:

• You plan to stay in your home for less than 3 - 4 years
• You think you will refinance your loan within the next few years
• You are applying for an adjustable rate mortgage

You should consider paying 1 or more if:

• You plan to stay in your home for more that 5 years
• You plan to keep your property as an investment after you move
• You don't plan on refinancing in the near future

Other things to consider

Another important consideration is how to pay for them.  Although they will reduce your monthly payment, it may not always be your best option to pay them. Homebuyers are often strapped for cash and the money that would be allotted for them may be better used for furniture, new carpet or window coverings, especially if the alternative was to use a credit card.  On a refinance transaction, they can usually be included in the loan amount, rather than being paid out of pocket. Read more about origination fees or points

Tax deductibility is another factor to consider.  For a loan to purchase a home, they are tax deductible in the year they are paid; however, with a refinance loan, they can only be deducted over the term of the loan.  Always consult your tax adviser for specific tax rules.

As a Certified Mortgage Planning Specialist, I offer an analysis of your situation today can make suggestions on how small changes in how your debt is structured today can have a life changing effect in the years to come.  Read more about this free, no obligation service.

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