Why Buy Points?

Have you ever stopped to wonder about points on mortgages? I certainly have. Rumor has it that there was a time when the interest rate you paid was simply the interest rate you paid, and there wasn't any "point" that you could "buy" to reduce that rate.

That's really all that points are: they are a fee that you pay up front in order to reduce your interest rate.

A discount point, at 1 percent of the loan amount, usually benefits you by .25 percent. In other words, for each point paid, your rate is reduced by .25 percent. That's the way it should generally work. However, some consumers get misled right out of the gate by paying 2 or 3 points just because their loan officer told them they had to. But that's not usually the case. Points should be optional, and you need to look at your own situation to decide if it is a smart move or not.

Let's look at an example: on a standard 30 year fixed rate today at 6.50 percent with a $300,000 loan the payment would be $1,896. This is without paying points. Now pay one point and get a .25 percent lower rate of 6.25 percent and the monthly payment drops to $1,847, or $48 lower. But that lower payment costs $3,000 upfront. While the $3,000is a tax deduction, it is still money out of your pocket up front.

If you divide the $3,000 payment by the $48 monthly savings, it will take you 62.5 months to break even on the points purchase. In other words, it takes just over 3 years to start to benefit. That's a long time to make your money back. You could take the same $3,000 and put it in another tax shelter like a retirement fund and get a better return.

Think twice before buying points, and be sure that you are getting the best bang for your hard-earned buck.

Michael

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