What are mortgage points & what do they do?

What are mortgage points & what do they do?

Home mortgages can be vastly different depending on where you get one from and what shape the market is in. Depending on when and where you get your mortgage from, you may be required to pay points on your loan. Keep reading to find out what mortgage points are and what they do.

Mortgage points work by allowing the homebuyer to pay a fee (1% of the total loan) directly to the lender. For example, if you are purchasing a home at $100,000 each point would be $1,000 (100,000 x 1%). Lenders can charge 1, 2 or more points.

There are two different types of points: Origination and discount

Origination points are used to compensate loan officers and to cover costs occurring during the process. Not all lenders charge an origination fee, but those who do will sometimes negotiate the rate. This fee is rarely tax deductible, but it’s worth checking into.

Discount points basically allow someone to buy down the rate in the very beginning. Generally, purchasing one point will lower your interest rate by .25%. If you itemize when you file your taxes, these points are deductible under schedule A. With discount points you typically can purchase as many as three or as few as zero.

Should you pay for mortgage points?

That’s a great question and you’ll need to consider two things before you make the call.

1. Do you have enough money to cover the points AND meet your down payment?

2. Will you keep your new home long enough to justify paying extra money upfront?

To answer these questions you need to know your budget and do a quick ROI calculation to see about your long-term savings. Investopedia gives an example for each mortgage point question that will help you make the right decision.

Have you ever purchased mortgage points before? Let us know your thoughts about this topic in the comments below or on Facebook, Google+, or Twitter.