What are mortgage points (and should you pay them)?

How mortgage points work

A mortgage point, sometimes called a discount point, is a one-time purchase made at the time of closing. Some companies refer to paying points as “paying down the interest” or a “buydown.” Essentially, you're buying your rate down with points.

Paying down the interest increases your closing costs, but it also reduces your monthly mortgage payment.

Typically, each mortgage point costs 1% of your total home loan. For example, one point on a $100,000 loan usually costs $1,000 upfront. Most lenders allow you to purchase a fraction of a point, too. Your lender sets the exact number, but each point paid will likely offer a reduction of 0.25% off your interest rate.

“When you permanently buy down your mortgage interest rate, it’s a one-time fee paid at closing. Traditionally, you, as the consumer, are paying it in additional closing costs or, in some cases, the seller pays for it,” explained ​​Adam Spigelman, senior vice president with mortgage lender Planet Home Lending. But Spigelman also noted that “if you refinance before the end of the mortgage, say in six months or six years, you lose the benefit of the lower rate purchased at closing.”

The example for a 30-year fixed-rate mortgage below shows the potential savings in interest when purchasing mortgage points. In this scenario, a $450,000 home purchase price with 20% down works out to a $360,000 loan principal. The borrower could purchase three mortgage points at a cost of $3,600 per point, with each point representing a 0.25% interest rate reduction.

The break-even point

When deciding whether mortgage points are worth it, you need to consider the break-even point. If you plan to sell the home or refinance before you break even, you’ll lose money on the points you bought.

In the example above, the monthly payment difference is $178. The borrower paid $10,800 in mortgage points. Dividing $10,800 by $178 shows that it takes about 61 months (or about five years) to break even on the points purchase.

You should run this same calculation to find your own break-even point, which is often several years after closing.

Should you buy mortgage points?

“Rising interest rates, the probability of a recession and softening real estate markets have combined to make the use of mortgage points more attractive to homebuyers,” said Spigelman.

A mortgage point purchase could be beneficial in a number of circumstances, including:

• You expect to live in your home for a long time. The longer you’re in your home, the more you save from a lower interest rate.
• You don’t foresee refinancing in the near future. Refinancing means financing into a new loan, which means you lose the interest rate reduction from buying points with the original loan.
• You’re making a large down payment. If you already have the 20% down payment needed to avoid private mortgage insurance (PMI) and can afford the additional mortgage points, then buying points may make sense.

Calculating your break-even point is essential when considering whether you should buy mortgage points. It gives you a numbers-based answer for the minimum amount of time needed to recoup the upfront cost of the points.

» MORE: What is the average U.S. mortgage payment?

When you shouldn’t buy mortgage points

The prospect of saving thousands of dollars over the years may make it seem like buying mortgage points is always a good idea. However, there are circumstances when buying mortgage points isn’t worth it, including:

• You are unsure if or when you’ll move. Before committing to buying points, calculate the break-even point so you’ll know how long you need to stay in your property to recoup the upfront cost of the points. Are you certain that you’ll stay in the property until you at least break even?
• You don’t have the funds for additional closing costs. Since you pay for mortgage points at closing, it increases the amount of money you must bring to the closing table. If fronting the additional funds will significantly strain your finances, it may not be worth it.
• You may need to refinance. If it’s possible you’ll want to refinance to get a lower interest rate, decrease your monthly payment, get rid of PMI or take cash out, then you should likely avoid a points purchase. Refinancing before the break-even point means you won’t recoup the money you paid upfront for the points.

» MORE: How soon can you refinance a mortgage?

Tips for negotiating mortgage points

Some lenders may have flexibility with respect to several aspects of their mortgage points, so it never hurts to ask for the best available deal during the negotiation process.

Here are some steps you can take as you’re comparing lenders:

• Shop around for lenders that offer the best rate reduction from mortgage points.
• Pre-qualify with multiple lenders and encourage them to compete for your business.
• Check for discounts associated with purchasing multiple points.
• Avoid lenders that have a low cap on the number of mortgage points that you can buy.
• Make a large down payment to keep your principal low.
• Be careful with points and adjustable-rate mortgages (ARMs), as points may only reduce your interest rate during the ARM’s initial fixed-rate period.

No matter how many points you may or may not purchase, comparing lenders is essential to finding the best mortgage rate. Each lender has its own pricing structure, which means buying a mortgage point at one lender may not have the same impact on long-term interest charges as purchasing discount points from another lender.

Bottom line

Like so many other aspects of taking on a mortgage, whether or not you should buy mortgage points depends on your personal financial situation.

If you plan on staying in your home for a significant amount of time and have the funds, buying mortgage points may make sense. However, if you’re struggling to meet closing costs or you anticipate refinancing or selling before your break-even point, mortgage points may not be worth it.