Mortgage points and what they mean to your bottom line

You may or may not benefit from purchasing discount points

The purchasing of a home is a complicated and mysterious process for most people. While home ownership in this country now approaches 70% of the population, few people buy houses more than a couple of times in their lives. As such, they never become overly familiar with the process, which, to be fair, can be complicated enough to require the aid of an attorney. After all, there are people who devote their entire careers to the sale of property. Title issues, tax issues, easement issues and complications of the mortgage contract itself make it so. 

One of the things that makes mortgages complicated is the mysterious notion of “points” which are often discussed by lenders. It appears that some things you may wish to do with your contract may cost “points”, but what are they? What do they do? Can you avoid them?

Points aren’t really all that complicated, but whether you need them and how much you pay is largely up to you. In short, a “point” is one percent of the loan amount. If you are buying a house and borrowing $100,000 to pay for it, then one point represents $1000. The term is simply shorthand for “one percent of the loan amount.” OK, but what do points do for you? How do they factor into the contract?

Points generally turn up in two places in a mortgage contract. The first time is with something called an “origination point.” The second time is something called a “discount point.” One of these may help you; the other is just a fee.

Origination points are fees to the mortgage company for creating your loan. They are, in essence, the lender’s fees for taking the time to put together your paperwork that makes buying your home possible. In practice, the fee for doing so is usually about one point, or one percent of the loan amount. This is added to your contract price and is, in all likelihood, not negotiable. It is, however, generally deductible from your Federal income tax. For clarification on this, you should consult with your accountant or professional tax preparer. Whether or not you can deduct this from your taxes is dependent on a number of variables.

Discount points can possible help you, depending on your needs, the current interest rates, and the length of time you plan to spend in the home. A discount point is a fee that you can pay to the lender to reduce your interest rate. Each point paid generally represents a drop in the interest rate of approximately one quarter of one percent. Whether you should buy discount points depends on:

• Whether the lender offers them
• How high (or low) prevailing rates currently are
• Whether you will remain in the house long enough to recover the points paid through lower payments. 

If you are paying $4000 to lower your rate, you can see how much lower your payment will be, divide that into $4000 and the answer will be the number of months you need to live in the house in order to break even. After that, you save money. If the break even point is five years, and you think you will sell the house in three years, then you are better off not paying the discount points.

And that is it in a nutshell. They are fees to the lender with a different name.