Mortgage points, also referred to as discount points (or just “points”), are additional funds you can pay at closing to lower your interest rate. But while a lower interest rate may sound good, you want to make sure you have all of the necessary information before making this decision. Bryan Sutton, sales manager for SunTrust Mortgage, talks about when paying points could be helpful and when it might be better just to leave the rate as advertised.
Can you provide a simple definition of what discount points are and how they work?
Essentially, a discount point is a fee paid to the mortgage lender at closing in exchange for a lower interest rate. Generally, one point costs one percent of your total mortgage amount and translates to roughly one-quarter of a percent reduction in rate. So for example, if you had a $200,000 mortgage and wanted to reduce your interest rate by 0.25%, you would need to pay one discount point, which would cost around $2,000. Note that this is a general guideline, and that point costs and interest rate reductions may be different depending on the lender, loan size, loan term and loan type.
What factors should people consider when deciding whether to use points?
When homebuyers begin to discuss financing options with their lender, some important questions are how long they’re going to be in the property and what monthly payment they are looking for. Even if buying points makes sense over the life of the loan, maybe they don't have the extra cash to go this route. So all of those things should be taken into consideration when having that conversation. And conversely, sometimes you talk about increasing the interest rate to reduce the amount of cash you need at the closing.
What does that situation look like?
If I know a client is tight on funds, then maybe it’s a better move for them to reduce the amount of cash they need for closing in exchange for a slightly higher rate and monthly payment. While it's not necessarily a popular thing to talk about going higher in rate, some homebuyers—especially first-time homebuyers—may not think about additional expenses that are associated with moving. New furniture. Relocating costs. Less cash needed at closing could be more important to some clients than paying a small additional amount each month. And for some clients, there may not be another option except to exchange some of the closing costs for a higher rate.
So how can a mortgage lender work with homebuyers to decide what’s right for them?
We're always trying to make recommendations about what’s best for our clients’ financial well-being. That’s why it is so important to discuss their goals, what’s going on in their lives, and what’s important to them. If a low monthly payment is most important to them for their budget, then paying points may be a good option, especially if they are going to be in the home for a long period of time. If they’re not, then they’re unlikely to save enough to make back what they spend on points. Potential buyers do get hung up on interest rates and think, for example, that 4.75 percent sounds a whole lot better than 4.99 percent, but what does that truly get them? In many cases, the monthly savings aren’t too significant. But these are all levers we can use to help someone live the dream of homeownership. And I think that's the important part. (NOTE: This is a hypothetical illustration and does not represent an actual quote for an available rate.)
Is there anything else homebuyers should know as they begin the loan process?
Just keep in mind that every lender is going to be priced a little bit differently. Everyone's trying to be competitive but also profitable within how they're pricing interest rates. If you see a rate that’s significantly lower than others, you want to make sure that lender fees or points aren’t built into that rate in another way. Make sure you understand the annual percentage rate (APR), which reflects not just the interest rate, but also other fees and costs incurred in obtaining the loan. Sometimes it’s hard to compare apples to apples, so you want to really read the entire rate sheet and understand all of the fees.