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Many homeowners are looking at today’s mortgage rates ( some 15-year refi rates are near 2% and some 30-year rates are below 3% ) and thinking, wow those are low. But there are ways to get them even lower: Points, also called discount points, are basically a form of prepaid interest. You buy them in exchange for a lower interest rate for the rest of the loan term. One discount point costs 1% of your loan total, so one point on a $200,000 loan costs $2,000; you’ll get about a 0.25% reduction in your interest rate per point that you buy. The savings can add up to tens of thousands of dollars when you do this, but buying points on your refi isn’t always worth it.
When does buying points make sense on a refinance?
Those who can afford a larger upfront payment and plan to stay in their homes for a while may benefit from buying points, experts say. But note that it could take five or six years before you break even on that deal, says Greg McBride, chief financial analyst at Bankrate.
Given the frequency that homeowners refinance or sell, paying points up front but not getting to breakeven for several years may not be very appealing. “Homeowners that don’t have a plump emergency savings account to cover the points or are up against a loan-to-value threshold that could push them into a less attractive rate should steer clear,” says McBride. (Lenders typically want a loan-to-value ratio of 80% of less; you can divide the amount borrowed by the appraised value of the property to figure out your LTV.) “But if you’re refinancing into a 15-year loan on a home you’re planning to stay in with the goal of getting it paid off before retirement, paying points to further buy down the rate could be a good use of excess cash,” says McBride.
The best way to figure out if buying mortgage points will be worth it is to sit down and calculate how much money you’d save each month for every point you buy, says Jacob Channel, senior economist at LendingTree. “Once you do that, divide the cost of the points you bought by the amount you’ll save each month, and you’ll see how many months it will take for you to breakeven on your initial point investment,” says Channel. If you plan to leave the home before you hit the breakeven point, then buying discount points won’t be worth it as you’ll end up spending more than you save.
If that seems like an annoying amount of math right now, Kate Wood, home and mortgage writer at NerdWallet says, you can assume that each point costs 1% of your mortgage balance for a .25% reduction in interest rate. With that in mind, she notes, “buying points will generally increase your closing costs by thousands of dollars and reduce your monthly mortgage payment by tens of dollars.” But over time, that can add up and be worth it.
One option to look into? “In some cases, you may even be able to use your existing equity in the home to pay for the mortgage points, which will ultimately lower your rate and monthly payment,” says Jonathan Lee, senior director of mortgage sales for Zillow Home Loans.
Make sure you shop around for points
Points are something to look out for when you’re rate shopping even in this low-rate climate, experts say. And lenders will sometimes include points in the sample refinance rates they show in their websites to make their mortgage rates appear even lower. “You often have to find a footnote or disclosure statement to see the assumptions they’re using to generate those sample rates,” says Wood.