One discount point (or simply “point”) equals 1% of the loan amount. For example, if the loan amount is $200,000, one point would be $2,000 – 1% of the loan amount. How much of a rate discount a point buys you can vary widely, but it’s often in the range of 0.125% to 0.375%.
When Should I Pay Them?
Does it make sense to pay mortgage points? Well, that depends on your goals for the loan. If you’re planning on keeping the loan at least 5 to 7 years, it can sometimes make sense to pay extra points for a lower rate. However, if you know you won’t be in the loan that long, it’s usually better to keep your costs lower and avoid paying points. If you pay one or two points to get a lower rate and only keep the loan a few years, you’ll likely end up paying more for the mortgage than you need to.
To see how points impact the lifetime cost of a loan, check out the three 30-year fixed loan scenarios in the table below. The option on the left offers zero points but has the highest interest rate. The option in the middle has a slightly lower rate with one point, and the option on the right has two points and the lowest interest rate.
Those savings are accumulated over a 30-year period.
As you can see, the lowest rate option with two points has the lowest lifetime costs, but keep in mind those savings are accumulated over a 30-year period. Over 30 years, it’s only cheaper than the one point option by $3834 – or $127/year. And those savings are only realized in the later years of the loan because it takes time for the lower interest rate to make up for the added upfront cost of the points. If you run both options through an amortization calculator, you’ll discover that it takes until well past the 10-year mark for the two-point option to become cheaper than the one point option.
As you can see, paying discount points can make sense, but you need to stay on the loan for a while to reap the benefit. If you plan to only stay in the loan for around 5 to 7 years or less, it’s usually best to avoid points (if possible) and keep your costs lower. If you know you’ll be on the loan for at least 5 to 7 years, it can make sense to pay points, but don’t overdo it. As you can see from our brief analysis here, the lowest rate on the rate sheet isn’t always the best deal if you end up paying a lot of costs to get it and don’t keep the loan long enough.
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