When it comes to getting a low interest rate for a mortgage loan, the best way to get a reduced rate is to purchase a buy down on the rate. The buying of discount points to lower the rate can save you money over the long term of the loan, but it is crucial to know whether a discount point is worth the cost.
What Is a Discount Point?
First, discount point or a buy down is the term referring to the cost of reducing the mortgage rate. Usually a discount point is a percentage of the loan amount. One discount point refers to one percent of the loan amount. For example, if you are applying for a $300,000 home loan, then one discount point would cost $3,000.
A discount point can lower your rate on average by .125% to .375%. The cost of reducing the rate can change from day to day when loan rates are updated.
So, when should you consider buying a discount point to your loan? The best way to figure out the advantages of discount points is to consider how much the cost will be and how much the savings will be over the life of the loan. Each point you pay will reduce your loan rate and also lower your monthly mortgage payment, but each point will also increase your closing cost.
The Break Even Point
The breakeven point is when the cost of the discount point and the monthly savings evens out. For example, if you pay $1000 in points to reduce your rate and save an extra $25 per month, it would take 40 months to recover the cost of the discount point. Any payment beyond the 40th month is a savings for you. So as long as you keep the loan past the breakeven point, then it is a great idea to buy a discount point.
Another reason to add a discount point is when the seller is paying the buyer’s closing cost. This is a way to get a lower loan rate and not have to pay for the charge yourself. With today’s market, many sellers are paying for buyers closing cost. Of course, there are limits to what the seller can pay.
Premium Pricing
A discount point helps reduce the loan rate, but some people would rather take premium pricing and reduce closing cost. Premium pricing is reducing the closing cost by a percent of the loan and by doing so, increase the rate of the mortgage. Again, it is important to know where the breakeven point is. For premium pricing, the idea is to keep the mortgage only for a short period and have the loan paid off or refinanced before the breakeven point.
For more information on discount points or premium pricing, contact a mortgage advisor.
David White is a Senior Mortgage Officer who specializes in home loans. He has over 12 years experience and he helps his clients with their Dallas home loans.
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