Paying Discount Points

So, you want to buy a house? Good for you. You now have a few decisions to make that will affect your finances for the next few decades, one of which is this: will paying discount points be worth it in the long run?

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When we use the term discount point, we’re basically describing one percentage point of the value of your loan. So, for a $200,000 mortgage a single discount point would be $2,000. Simple.

Now, here’s where it gets interesting. Most lenders will offer you the option of paying one or several points on closing in return for a discounted interest rate. What you should consider, then, is whether by paying discount points you could save yourself money. Let’s take a look at this example:

Loan amount = $200,000

Term of mortgage = 30 years

Interest rate without points = 6%

Reduction per point paid = .25%

So, if you were to pay 2 discount points on closing, your interest rate would fall from 6% to 5.5%. This would bring your monthly repayment down by $64, saving you $23,040 over the life of the mortgage.

But here’s the catch. Since you’ve paid 2 points on the loan you’ll be running at an overall loss until you’ve reached that all important break-even point, when you’ll begin to benefit from the lower repayments. In this example that point comes 91 months, or about 7 ½ years, down the line the point at which your $4,000 payment has been recouped through lower repayments. After the break-even point you’ll begin to see the benefit of paying those points down early on.

So, before you choose whether to pay discount points at the beginning of your loan you need to ask yourself if you can realistically expect to keep the house long enough to see the benefits. If you have cash available and you intend to stay put for a long time, paying discount points will usually be in your best interests. If however, you’re not sure if you’ll still be living in the same property before the break even point you’re better off keeping the money in your pocket.