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Mortgage points, also called discount points, are an option for homebuyers looking for the lowest interest rate on their loan. They offer a trade-off: Pay an extra fee at closing and get a lower rate over the course of your loan term.
Here’s what you need to know about mortgage points:
- What are mortgage points?
- How do mortgage points work?
- How much are mortgage points?
- How to calculate mortgage points
- How do mortgage points save you money?
- Mortgage points are tax-deductible
- Origination points
- What is the difference between mortgage points and lender credits?
- Are mortgage discount points worth it?
What are mortgage points?
Mortgage points, or discount points, are fees you can pay your lender to reduce the interest rate on your home loan. This is sometimes known as “buying down the rate.”
Mortgage points are always optional, and if you choose to buy them, the lender will add the points to your closing costs. That means buying discount points increases your upfront costs, but it allows you to save more money over the long run on your monthly payments.
How do mortgage points work?
Mortgage discount points are relatively simple. Here’s how they work:
- You agree to pay the lender for a “point.” Each mortgage point usually costs 1% of the total loan amount.
- Your lender then agrees to lower your rate by a certain percentage — typically 0.25%, but it varies by lender.
For example: On a 30-year home loan worth $300,000, one mortgage point will likely cost you $3,000. Each point you buy reduces your interest rate by a specific amount — typically 0.25%. So, after buying one point, a 3.50% interest rate would fall to 3.25%. That might not sound like much, but you would save nearly $12,000 over the life of the loan.
Here’s how two home loans would look with and without points:
| Without points | With points | |
|---|---|---|
| Loan amount | $300,000 | $300,000 |
| Down payment | $60,000 | $60,000 |
| Mortgage rate | 3.50% | 3.25% |
| Monthly payment | $1,078 | $1,045 |
| Total interest paid over loan term | $147,975 | $136,018 |
| Total payments over loan term | $387,975 | $376,018 |
| Note: All numbers here are for demonstrative purposes only and do not represent an advertisement for available terms. | ||
How much are mortgage points?
Mortgage points are calculated in relation to how much you’re borrowing. As mentioned previously, one discount point costs 1% of the loan amount. So, if you have a $300,000 loan, one point will cost you $3,000. But if you have good credit and a large down payment, you might be able to negotiate a lower price for each discount point.
How to calculate mortgage points
To calculate discount points on a mortgage, we’ll use the previous example of a $300,000 home loan.
1. Calculate the cost of one point
One point costs 1% of the loan amount, so multiply $300,000 by 1%:
$300,000 x 0.01 = $3,000
In this example, buying one discount point costs $3,000 and saves you $33 a month.
2. Calculate your breakeven point
You’ll also want to know how long it takes to recover the upfront cost based on how much you save. To find out when you’ll break even, divide the cost of the discount points by your monthly savings:
$3,000 / $33 = about 91 months, or 7.5 years
In this example, you would need to stay in your home for at least 7.5 years to cover the cost of the points you buy and start saving money on your mortgage.
It’s hard to predict exactly how long you’ll stay in a home before you buy it, but try to come up with a realistic estimate when comparing mortgage quotes. This can help you make the right decision about whether to buy points.
How do mortgage points save you money?
To evaluate if mortgage points are smart for your home purchase, you’ll need an idea of how long you’ll stay in the home. In order for points to be worth their price, you’ll have to reach the breakeven point — or the point at which you save more than you spent.
In the previous example, a point would cost about $3,000. At a savings of $33 per month, it would take around 91 months (7.5 years) to break even on that $3,000. If you think you’ll move before that point, then it’s probably not a smart move to buy the points.
Find Out: How to Buy a House: Step-by-Step Guide
Mortgage points are tax-deductible
If you do end up purchasing discount points, you can actually deduct their costs from your annual tax returns — as long as you itemize deductions. You can deduct them for either the year you purchase the home or deduct them incrementally across your loan term, depending on various factors (including the loan purpose).
- The home you took out the loan to purchase or build must be your primary residence.
- The points weren’t more than the general average for your area.
- The points weren’t used for anything like an appraisal fee, inspection, or another charge.
- You didn’t borrow funds from your lender or broker to pay the points.
Your closing settlement statement (or “Closing Disclosure”) will also need to clearly identify the points (and their cost). Here is the full set of requirements from the IRS, but you should consult a tax professional if you’re thinking of deducting your points.
Learn More: How Much Does It Cost to Buy a Home?
Origination points
Origination points aren’t to be confused with discount points. Unlike discount points, origination points won’t reduce your interest rate — they’re a fee you pay the lender for originating, reviewing, and processing the loan.
These points typically cost 1% of the total mortgage amount. For instance, if your lender charges 1.5 origination points on a $300,000 home loan, you’ll need to pay $4,500 at closing.
Tip: You can find this fee on page 2 of your loan estimate. Origination points aren’t optional, like discount points are, but you might be able to negotiate with the lender to waive or lower them. Having strong credit and a large down payment can help.
What is the difference between mortgage points and lender credits?
When looking at your loan estimate, you might see two different kinds of points: mortgage points (or discount points) and lender credits.
With mortgage points, you’re paying to lower your interest rate. With lender credits, you’re agreeing to pay a higher interest rate in exchange for lowering your costs at closing.
- Mortgage points are your best bet if you know you’ll be in the home a while, as it will equate to the most in long-term savings.
- Lender credits can be a good option if you’re just looking to get in the home with the lowest upfront costs. It’s also better for short-term buyers (a higher interest rate isn’t ideal if you’ll be in the home for decades).
Here’s a quick look at mortgage points vs. lender points:
| Mortgage points | Lender credits | |
|---|---|---|
| Purpose | Lower your interest rate | Lower your costs at closing |
| Good for |
|
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Are mortgage discount points worth it?
Mortgage points can only be purchased at closing, so be ready to make a decision early in the process — both when buying a home or applying for a mortgage refinance.
Remember that points are negotiable, too, so if you’re not happy with the cost or how much a point can lower your rate, it might be worth asking your lender for a better deal.
Shopping around can also help give you a better shot at a low rate. Just keep in mind that many advertised rates already have points factored in, so pay close attention to any loan estimates you receive. Points will be noted on Page 2 of the document.
If you’re ready to get started on your mortgage rate-shopping journey, or to see what types of mortgage loans, you qualify for, Credible Operations, Inc. can help. We’ll help you compare rates from multiple lenders in just minutes.
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Kim Porter contributed to the reporting for this article.
