Should You Pay Discount Points on Your Mortgage?

October 27th, 2009 3:00 PM

If you're thinking about buying a home or refinancing your current mortgage, you're probably at least somewhat familiar with points. Basically, paying points allows you to get a lower interest rate. In essence, you're paying some of the interest up front, so you don't have to pay as much over the life of the loan.

It's a fairly straightforward concept, but one that can be confusing for a lot of borrowers. Part of this is because mortgages can be fairly complex transactions, with a lot of other fees and terminology involved, and points are just another thing to keep track of. But the bigger challenge tends to knowing whether or not it's worthwhile to pay for points in the first place.

A point one percentage point - that's where the name comes from. When you take out a mortgage, either to purchase or refinance, each point you buy costs you 1 percent of the loan total - or $10 per $1,000 of the mortgage value. In return, each point you pay reduces your interest rate by a certain amount - usually 1/8th of a percent, but that can vary from lender to lender.

So assuming you're taking out a $250,000 mortgage, each point will cost you $2,500. So if the lender is offering a 5.25 percent interest rate, paying two points would cost you $5,000 and enable you to bring the rate down to 5.00 percent, based on a reduction of 1/8th a percent for each point paid. As a result, your monthly mortgage payment is reduced.

Calculating the break-even point

But do you want to do this? The main question is, will you remain in the house long enough to make it worthwhile? That is, how long will it take to reach the "break even" point, where the savings on your monthly mortgage payments equal what you paid in points?

The answer is typically a long time, unless you're getting more than a 1/8th of a percent reduction on each point. In the example above, it would take you 130 months - almost 11 years - to recover the $5,000 you paid in points, based on a savings of $38.46 cents in interest each month (based on the example above, a 5.00 percent rate would produce a monthly payment of $1,342.05). For many, that may seem like a relatively small savings over a long time, particularly in light of the big chunk of money you're paying up front for points.

However, it's not quite that simple. The lower interest rate also enables you to pay down the principal more rapidly. To find out how quickly, you can use an amortization table, which is commonly offered along with many mortgage calculators, such as the ones offered at right on this site. Running the numbers on this loan, you can see that after 130 months, the balance">remaining balance on the 5.00 percent loan would be $1,618 less than on the 5.25 percent loan. So in reality, you'll hit the "break even" point a few years sooner that a straightforward calculation would suggest.

Tax deductions also a factor

There are other factors involved as well, such as the deductions you can take on your taxes for mortgage interest payments, which will affect the final numbers. (Since points are essentially interest, you can deduct those as well, but only for the year when you close on the mortgage - you can't spread them out over the life of the loan.) But generally, you'll need to be in the home about seven or eight years to make it worthwhile to buy points.

It's generally not a good idea to buy points if you're not putting at least 20 percent down on your home purchase or have a loan-to-value ratio of 80 percent or less on a refinance. Otherwise, you're probably better off putting any money you might spend on points toward your down payment, to eliminate the need for private mortgage insurance or hasten the day you can get rid of it. Since private mortgage insurance typically costs about half a percent of your original loan value per year, the potential savings are typically greater than what you might save by paying points.

Please Call me with any questions!  Gary Bussard 314-993-6690

Some Advice for First-Time Homebuyers

October 27th, 2009 3:06 PM

To begin with, it's an awfully big investment - potentially, the biggest you'll ever make - and making the wrong choices can make it even more expensive. But it can also be one of the best and most satisfying decisions you'll ever make. So how to make sure you're making the right choices? Fortunately, there are some general guidelines you can follow that help ensure you're making a good decision.

Shop around

One of the first things you should do when contemplating buying a home is get to know your local real estate market. Check out listings, both online and in the paper. Go to a bunch of open houses to see what's available in different price ranges around what you think you might be able to pay. At this point, you're not really looking for a home, you're getting a feel for what your money will buy.

Find a good real estate agent

Ask around, talk to friends who've bought a house, get a buyer's agent to represent you. In most states, the realtor's fees are paid by the seller, so there's no reason for you not to get one - plus they're supposed to look out for your interests.

How much home do you want?

Think carefully about this. A big yard is nice if you have kids or a dog, but will require more work to maintain. A fixer-upper may sound attractive, but how handy are you with tools? Those do-it-yourself shows and guidebooks make it look easy, but the unavoidable rule of any kind of home repairs are the unexpected little problems that inevitably crop up and which the books said nothing about. Don't expect a big lifestyle change just because you're buying a house - choose something that fits the way you live now, with a few enhancements.

Figure out your budget

How much house can you afford? The general guideline is that you can spend 28 percent of your monthly pre-tax household income on a mortgage payment, including taxes and insurance. But do you want to spend that much? Would you be happier with less house and more to spend on things like vacations or saving for retirement? You don't want to tie up so much in your house that it's crowding out the other things you want in life.

Anticipate future expenses

What else are you likely to buy in the next few years? Is your car getting old? Are you planning to start a family? Are you or your spouse thinking about going back to school? And don't forget home maintenance and repairs - a new roof, septic field or furnace can set you back thousands of dollars, in addition to the regular maintenance and occasional repairs all homes need. And the older the home, the more you need to allow for.

Don't buy the first house you like

Yes, you might miss a great bargain now and then, but it's not likely. There are a lot of homes on the market right now. Some real estate agents will tell you that when you find a house you like, you should buy it. Of course they do. They want to sell you a house. The fact is, even if you miss out on this house, you'll more than likely find others that you like just as much, if not more, particularly in a buyers' market like we have today.

Learn your credit score

You can purchase this from one of the three major credit reporting agencies - Equifax, Experion and Transunion. You'll need to pay for the score itself - only your credit history is available once a year without charge. Once you have your score, you can see what average mortgage rates are for people in your state with your credit rating, which will help you in shopping for a mortgage. You can check with www.Myfico.com to see what the average rate is for someone with your credit score and see how rates in your state compare to others.

Shop around again

You don't want to just shop around for a house, you want to shop around for a mortgage as well. You'll want to get prequalified, so you'll know how much you can borrow and at what interest rate, as well as being able to make a concrete offer as soon as you find the house you like. But also, you want to find a lender that offers the best terms you can get on a mortgage. Compare loan offers from several lenders, be sure to consider closing costs and be leery of signing any agreement until you're ready to commit.

Consider a mortgage broker

A mortgage broker can sort through a wide range of lenders to help you find he best offer. You'll typically pay a slightly higher interest rate than if you found the lender yourself - that's how the broker gets paid - but a broker's greater expertise and resources might still be able to get you a better rate than you could find on your own, particularly if you have blemished credit.

Don't think of your home as an investment

Yes, it's an investment in that you'll have a lot of money tied up in it, but don't look at it as something that's going to make a profit. First and foremost, it's a residence. Besides, there are other places you can put your money that historically outperform real estate. Better to do that than sink extra money into a bigger house in hopes you can sell it for a fat profit a few years down the line.

I am both an Agent and a Broker - I can Save you money!!  Call me at

314-993-6690. 

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