Understanding "Points" And Their Impact On Closing Costs

When you apply for a mortgage, you'll be asked to select from a broad range of options. Part of this process will include selecting a combination of interest rate and "points." A point is an up-front fee, paid at closing, equal to 1% of the amount you borrow.

Just like any other business, lenders base their rates on today's financial markets. They charge what is necessary to operate successfully - let's say today that rate is 8%. Obviously, a loan with a rate of 8% would meet that requirement. But the lender offers you the option of paying cash at settlement in the form of points in exchange for a lower interest rate on the loan.

You might have the choice of 7.5% with two points or 7.75% with one point. To the lender, the end result on all of these options is the same. In effect, you are paying up front to reduce, or "buy down," your rate. (These rates are examples only.)

Why would you want to pay points?
Points reduce your interest rate. And the lower your rate, the higher the loan amount you can qualify for. At a lower rate, your monthly payment will be lower. And points on a purchase mortgage may be tax deductible. (Consult your tax advisor.)

Why would you not want to pay points?
Since points are collected at settlement, the more points you pay, the higher your closing costs will be. When you add up title insurance, attorney's fees, taxes, a survey and escrows, it can be a sizeable amount of money. Combined with your down payment, closing costs can stretch your budget very thin.

Two points on a $100,000 loan add $2,000 to your closing costs. It may make more sense for you to pay no points and save $2,000 in up front cash. The trade-off will be a higher rate and slightly higher monthly payment, but that may be more manageable for you than cash up front.

Your financial situation may give you the flexibility to choose points or no points. If available cash isn't really an issue, how do you decide which is best? That depends on how long you plan to stay in the house.

Let's say you have decided on a loan and have a choice of the following rate options: paying 8.00% and no points, or 7.50% and 2 points. Does it make sense to pay the points? On a $100,000 loan, 2 points amount to $2,000, and the monthly savings at the lower rate is approximately $34. It will take 59 months of saving $34 to make the rate buy down worthwhile. That's one month shy of five years. If you plan to sell in four years, the buy down isn't worth it. If you plan to stay for 20 years, it could be. Your true savings will be $34 per month from years 5 through 20.

Our goal is to provide helpful mortgage information that will assist you in becoming a better informed consumer. Federal regulations require that we provide the following payment examples. To find out which options make sense for you, talk to a Dollar Bank Representative.

	Option 1	Option 2
Mortgage Amount	$100,000	$100,000
Annual Percentage Rate	8.00% APR	7.50% APR
Points	0	2.000
Monthly Payment	$733.76	$699.21
Years to Payment	30	30
Number of Payments	360	360
Sum of Payments	$264,153.60	$251,715.60

The rates in this table are for example only. Ask your Dollar Bank Representative for current rates.

To try our mortgage calculators, click here .

The information presented in this publication is general in nature and it is not our intention to provide specific advice to individuals or a comprehensive discussion of the subject matter. We suggest that you consult with your financial or tax advisor, accountant or attorney to obtain specific advice or comprehensive information.