There are a few different terms you’ll hear in relation to this concept, but they all mean the same thing.
Points, discount points, and mortgage points.
Points are considered prepaid interest on a loan. A one-time purchase of a point at closing lowers your overall interest rate on the mortgage.
If you’re worried about how they’re calculated, it’s easy to do. One point equals one percent. So for instance, if your mortgage is $200,000, one mortgage point is $4,000. Two points is $8,000 (and so on). So, the larger the loan, the more expensive points are.
Since rates in this industry fluctuate daily, so there’s no “set amount” for how much interest rates decrease when you buy a point. It’s safe to say that it might go down by a quarter or three-eighths of a percentage.
Buying points is optional depending on how long you plan on staying in your new home. First you must figure out if you’re able to spend that money on top of other closing fees or if you’d rather those funds go towards repairs and improvements or moving costs. Be careful about buying “too many” points because ultimately they won’t lower the principal loan amount. Those planning to be in the house for a few years won’t need too many. It doesn’t make financial sense.
However, talk to your tax professional at the end of your fiscal year. Your discount points may be tax deductible for the year that you purchased them!
We should also clarify that there are two different types of mortgage points, origination and discount, and it’s important to see what each means for you. Origination points are not tax deductible, they are the fee that you pay the lender for processing your loan. While these are negotiable, you may pay 1-2 origination points as a required fee.
In all, buying discount mortgage points can save you a significant amount of funds during the length of your loan. Take a look for yourself and see how your mortgage can benefit.