Discount Points

Normally paid at closing and generally calculated to be equivalent to 1% of the total loan amount, discount points are paid to reduce the interest rate on a loan.

On purchase transactions, it is also common to have a temporary buydown. In the situation, your initial interest rate will be 2% lower than your “true rate for the first year, 1% lower for the second year and than ease into your interest rate for the remainder of your mortgage loan. This will often make more sense than an interest only mortgage because the initial rate will be lower and you will still be making principal payments. This is also an excellent time to make additional payments to reduce your principal even further.

It is generally advisable to pay discount point s if your lender is having trouble qualifying you for your mortgage because of your debt to income ratio.

If you plan on living in your home for a longer period of time paying discount points to have a lower interest rate can be a great advantage.

You can save tens of thousands of dollars by paying a couple grand to buy down your rate. Contact a loan professional to do an analysis to show you the cost savings of paying discount points.

When paying discount points one has to understand the difference between cost and price. When a loan is amortized over the 30 year period the total payment for the loan is the cost. You have to refer to a amortization schedule to understand how much the loan will cost over the term of the loan. When paying points (lower price) to buy down a rate you are saving money (lower cost) over the life of the loan.

Homeowners who are “cash rich and income poor” often choose to pay discount points to buy down the interest rate. With a lower interest rate, these homeowners can often qualify for a mortgage loan amount that he would otherwise not qualify with his income.

If you only plan on staying in the property for a few short years then it might be to your advantage to not pay discount points and go with the higher rate. Seeing the difference on a spread sheet or using a financial calculator will help you make the decision that is right for you.

Points, sometimes referred to as Discount Points are different than origination fees, and are a source of confusion for many borrowers. Although “points” are a part of your closing costs, they are not considered loan fees. They are an optional way to buy the interest rate up or down. Interest rates are generally quoted in increments of eighths. Usually, the lower the interest rate, the more points you will be required to pay.

You can also use discount points as a tax deduction when federal income taxes become due.

In mortgage terms, this is commonly used to buy down your interest rate. Discount points are usually any percentage, paid in addition to the origination fee. A “point” is one percent of the loan amount.

Paying a discount point or points in order to lower the interest rate when refinancing into a long term fixed rate mortgage often makes good sense. The discount points can usually be financed into the loan.
Even with a higher loan principal to cover the points, the borrowers monthly payment is usually lower due to the lower rate of interest charged.

The discount point is pre-paid interest so you should know how long you will be in your home to see if it makes sense for you. The longer you will be in your home the more you will realize a greater savings.

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