NEW YORK, Feb. 13, 2013 /PRNewswire-iReach/ -- If you're researching different mortgage options, RealtyPin.com is a great place to start and where you've undoubtedly heard about "points". But what are they -- and, more importantly, how do they affect you?
Mortgage points are a form of interest. The difference between them and traditional mortgage rates is that you pay points all at once, instead of over the duration of your loan. In fact, you'll have to pay them as soon as you close on the loan. One point is equivalent to 1% of the amount of your mortgage. So, if you're taking out a $100,000 loan and your mortgage comes with two points, you'll have to pay $2,000 upfront. Your points payment won't reduce the amount of your loan, though. It's money you pay in addition to your loan. So, in our example, paying the points wouldn't drop your mortgage to $98,000; it would still be a $100,000 loan.
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So why on earth would you opt for a mortgage that comes with points?
Because the more points you have, the lower your mortgage rate will be! In the mortgage industry, the points process is called "buying down" your rate. Sure, you'll have to pay a chunk of money in the beginning, but you can ultimately wind up saving a whole lot more over the life of your loan.
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Are the savings worth it?
Typically, each point you pay will reduce your mortgage rate by about 0.25%. If that doesn't sound like much, remember that even a fraction of a percentage point can save you hundreds of dollars every year.
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So, should you opt for points?
That depends on you! First, you'll have to figure out if you can even afford a lump sum payment upfront. Remember, you've also got to deal with closing costs and all of your other mortgage fees. You may not have a few thousand dollars left over to pay points. If you're a little short on cash, consider ditching the points and using the money to make a bigger down payment. If you can afford a 20% down payment, you can avoid paying private mortgage insurance every month -- which can actually save you more money than the money you'd save by paying points! Even if you do have the money, paying points still might not be a good deal. If you're only planning on owning your house for a couple of years, paying points can be a waste of money. You'll need a mortgage calculator that can tell you how much you'll save every month by paying points. Then, figure out how long it will take you to break even.
In our example, let's say that paying two points on your $100,000 mortgage would save you $50 every month. At that rate, it would take you 40 months (or, 3.33 years) to make up for the $2,000 you spent. If you're only planning on keeping the house for two or three years, you'd end up losing money. And, remember, paying points isn't the only way to reduce your mortgage rate. It may be more cost-effective to get a 15-year loan, instead of paying points on a 30-year mortgage. As of mid-September, the average 15-year fixed rate was 2.85%, and the average 30-year fixed rate was 3.55%. Odds are you'd never find a lender that was willing to shave 0.7% off your rate, even with points! Before you pay points, you'll also have to think about the tax consequences. Luckily, your points are a tax deduction (just like your traditional mortgage rate) -- but the process can work a little differently.
For example, if you're refinancing, you won't be able to take your point deduction all at once. Instead, you'll have to spread it out evenly through the life of your loan. So, you'll be spending the money all at once -- but you'll have to wait years to see the full tax benefit from it.
Bottom line -- take some time to see which deal is best for you. There are plenty of mortgages with and without points!