How Many Points Can You Buy Down on a Mortgage?

Mortgage points are fees paid to a lender that influence both the upfront costs and the long-term expense of a home loan. These fees allow borrowers to adjust their interest rate, potentially leading to significant savings over the life of the loan. This article explores the mechanics of mortgage points and the factors to consider when deciding whether to use them to reduce an interest rate.

Understanding Mortgage Points and Rate Buy-Downs

Mortgage points are fees paid to a lender, with one point typically equaling one percent of the total loan amount. For example, on a $300,000 mortgage, one point would cost $3,000. Points come in two types: discount points and origination points. Origination points are fees charged by the lender for processing the loan, while discount points are paid to reduce the interest rate.

Paying discount points is also known as “buying down” the interest rate. This upfront fee, paid at closing, secures a lower interest rate for the loan’s duration. A lower interest rate translates to lower monthly mortgage payments and substantial savings over many years. This strategy effectively prepays a portion of the interest, decreasing the overall cost of borrowing.

Determining the Number of Points You Can Buy

There is no universal maximum number of points a borrower can purchase. Limits are set by individual lenders and influenced by financial considerations. Most lenders allow borrowers to buy between one and four points, varying by loan type, lender policies, and market conditions. For example, conventional loans might allow 1-3 points, while jumbo loans could permit 1-4 points.

Lenders often cap the maximum interest rate reduction achievable through points. For instance, a lender might only allow a rate reduction of 0.5% to 1%, even if multiple points are purchased. Each point generally reduces the interest rate by approximately 0.25%, but the exact reduction varies by lender and loan product.

A practical limit on the number of points is the cash available for closing costs. Since each point is one percent of the loan amount, multiple points significantly increase upfront cash. The benefit of each additional point can also experience diminishing returns. While the first point might reduce the rate notably, subsequent points may offer smaller incremental reductions, making them less cost-effective.

Calculating the Cost and Benefit of Buying Points

To determine if buying points is a sound financial decision, calculate the total cost, potential monthly savings, and the break-even point. The total cost of points is straightforward: multiply the percentage of the loan amount by the number of points. For example, two points on a $300,000 loan would cost $6,000.

Next, calculate monthly savings by comparing the mortgage payment with and without points. This difference represents the amount saved each month due to the lower interest rate. To find the break-even point, divide the total upfront cost of the points by the monthly savings. For instance, if points cost $6,000 and save $100 per month, the break-even point is 60 months, or five years.

If a borrower plans to stay in the home longer than the break-even period, buying points can result in overall savings. If the home is sold or refinanced before reaching this point, the upfront cost may not be recouped. It is advisable to consider your long-term occupancy plans and current financial situation before paying points.

Applying for a Mortgage with Points

When applying for a mortgage, discuss the option to pay points with your loan officer to understand available rate and point options. Lenders are required to provide a Loan Estimate form within three business days of a mortgage application.

The Loan Estimate will clearly disclose the cost of points under Section A, “Origination Charges.” Review this document carefully to ensure the terms align with your expectations. Before closing, borrowers will receive a Closing Disclosure, typically at least three business days prior to the closing date.

This five-page document provides the final details of the mortgage loan, including all closing costs and the total amount due at closing. The final cost of any points will be itemized on the Closing Disclosure. Points are typically paid as part of the overall closing costs, which are due at the time of the loan’s finalization.