a lot of people don?t really know what ?points? are when it comes to discussing their mortgage. Borrowers pay points to lenders when a loan is closed. One point represents a percentage point of the entire mortgage balance. If your mortgage is for $100,000, one point costs you $1,000.
Lenders take these upfront payments to reduce the long term cost of the mortgage. The ratios change, depending on the market and the bank, but let?s take an example for a mortgage at 6.25%: if you pay one and one half points, you will reduce the home loan rate to 5.875%, if you pay 2 ? points, you would reduce the rate to 5.375%.
The test is how long you will live in the house since the cost of the points lowers as time passes. Borrowing to pay points makes small sense, since the thought is to save interest, not pay it. For many first time home purchasers, points are not a excellent investment, since they will want to go to a different home in the near future.
Points should be viewed as an investment in the mortgage. Perhaps you choose to pay 1.5 points to get a reduction from 6% to 5.5%, that?s the investment you are making. You are paying some of your interest in advance, in effect.
It can be calculated whether or not it makes sense for you to pay points, depending on the length of time you will be in your home; use one of the many calculators on the internet or question a mortgage consultant to do it for you, free of cost.
Let?s discuss our $100,000 loan that may be reduced to 5.5% if $1,500 were place down in points. What is the breakeven point in this situation, based on the different rates? The cost of a $100,000 15 year loan at 5.5% is $599.55 a month. The monthly mortgage for a 30 year. 5.5% loan is $567.79 a month.
The points paid then save you $31.76 a month, but you had to give the bank $1,500 in order to get this savings. All you have to do is divide $1,500 by $31.76 and you will see that it will take 47.23 months for the points to be fully amortized. You have to plot on living in your home for at least 3 years, 11 months, for the points to have been worthwhile.
Once you have amortized that initial $1,500 investment, but, you will have a clear savings of $31.76 per month. Let us now suppose (this doesn?t happen very frequently today) that you really stayed in your home for the thirty years; you would save that $31.76 over the course of 30 years, a huge savings of $9,933.58!