Point (mortgage)
Encyclopedia
Points, sometimes also called a "discount point", are a form of pre-paid interest
. One point equals one percent of the loan
amount. By charging a borrower points, a lender effectively increases the yield on the loan above the amount of the stated interest rate
. Borrowers can offer to pay a lender points as a method to reduce the interest rate on the loan, thus obtaining a lower monthly payment in exchange for this up-front payment. For each point purchased, the loan rate is typically reduced by 1/8% (0.125).
Paying Points represent a calculated gamble on the part of the buyer. There will be a specific point in the timeline of the loan where the money spent to buy down the interest rate will be equal to the money saved by making reduced loan payments resulting from the lower interest rate on the loan.
Selling the property or refinancing prior to this break-even point will result in a net financial loss for the buyer while keeping the loan for longer than this break-even point will result in a net financial savings for the buyer. The longer you keep the property financed under the loan with purchased points, the more the money spent on the points will pay off. Accordingly, if the intention is to buy and sell the property or refinance in a rapid fashion, buying points is actually going to end up costing more than just paying the loan at the higher interest rate.
Points may also be purchased to reduce the monthly payment for the purpose of qualifying for a loan. Loan qualification based on monthly income versus the monthly loan payment may sometimes only be achievable by reducing the monthly payment through the purchasing of points to buy down the interest rate, thereby reducing the monthly loan payment.
Discount points may be different from origination fee
or broker fee. Discount points are always used to buy down the interest rates, while origination fees sometimes are fees the lender charges for the loan or sometimes just another name for buying down the interest rate. Origination fee and discount points are both items listed under lender-charges on the HUD-1 Settlement Statement
.
The difference in savings over the life of the loan can make paying points a benefit to the borrower. If you intend to stay in your home for an extended period of time, it may be worthwhile to pay additional points in order to obtain a lower interest rate. Any significant changes in fees should be re-disclosed in the final good faith estimate
(GFE).
Also directly related to points is the concept of the 'no closing cost loan'. If points are paid to acquire a loan, it is impossible at the same time for a broker bank or lender to make a premium for a higher rate. When premium is earned by making the note rate higher, this premium is sometimes used to pay the closing costs.
Interest
Interest is a fee paid by a borrower of assets to the owner as a form of compensation for the use of the assets. It is most commonly the price paid for the use of borrowed money, or money earned by deposited funds....
. One point equals one percent of the loan
Loan
A loan is a type of debt. Like all debt instruments, a loan entails the redistribution of financial assets over time, between the lender and the borrower....
amount. By charging a borrower points, a lender effectively increases the yield on the loan above the amount of the stated interest rate
Interest rate
An interest rate is the rate at which interest is paid by a borrower for the use of money that they borrow from a lender. For example, a small company borrows capital from a bank to buy new assets for their business, and in return the lender receives interest at a predetermined interest rate for...
. Borrowers can offer to pay a lender points as a method to reduce the interest rate on the loan, thus obtaining a lower monthly payment in exchange for this up-front payment. For each point purchased, the loan rate is typically reduced by 1/8% (0.125).
Paying Points represent a calculated gamble on the part of the buyer. There will be a specific point in the timeline of the loan where the money spent to buy down the interest rate will be equal to the money saved by making reduced loan payments resulting from the lower interest rate on the loan.
Selling the property or refinancing prior to this break-even point will result in a net financial loss for the buyer while keeping the loan for longer than this break-even point will result in a net financial savings for the buyer. The longer you keep the property financed under the loan with purchased points, the more the money spent on the points will pay off. Accordingly, if the intention is to buy and sell the property or refinance in a rapid fashion, buying points is actually going to end up costing more than just paying the loan at the higher interest rate.
Points may also be purchased to reduce the monthly payment for the purpose of qualifying for a loan. Loan qualification based on monthly income versus the monthly loan payment may sometimes only be achievable by reducing the monthly payment through the purchasing of points to buy down the interest rate, thereby reducing the monthly loan payment.
Discount points may be different from origination fee
Origination fee
An origination fee, or activation fee, is a payment associated with the establishment of an account with a bank, broker or other company providing services handling the processing associated with taking out a loan....
or broker fee. Discount points are always used to buy down the interest rates, while origination fees sometimes are fees the lender charges for the loan or sometimes just another name for buying down the interest rate. Origination fee and discount points are both items listed under lender-charges on the HUD-1 Settlement Statement
Hud-1 settlement statement
The HUD-1 Settlement Statement is a standard form in use in the United States of America which is used to itemize services and fees charged to the borrower by the lender or broker when applying for a loan for the purpose of purchasing or refinancing real estate....
.
The difference in savings over the life of the loan can make paying points a benefit to the borrower. If you intend to stay in your home for an extended period of time, it may be worthwhile to pay additional points in order to obtain a lower interest rate. Any significant changes in fees should be re-disclosed in the final good faith estimate
Good faith estimate
A good faith estimate, referred to as a GFE, must be provided by a mortgage lender or broker in the United States to a customer, as required by the Real Estate Settlement Procedures Act...
(GFE).
Also directly related to points is the concept of the 'no closing cost loan'. If points are paid to acquire a loan, it is impossible at the same time for a broker bank or lender to make a premium for a higher rate. When premium is earned by making the note rate higher, this premium is sometimes used to pay the closing costs.
External links
- irs.gov/publications/p936 - IRS Form 936 defines a point for the purpose of deducting mortgage interest for U.S. income taxes