What Is BPS in Mortgage and How Does It Affect Your Loan?
Understand basis points (BPS) and how this small financial unit affects your mortgage payments and overall loan costs.
Basis points, or “bps,” are a fundamental unit of measurement in finance. This term is particularly relevant in the mortgage industry, where even minute shifts in rates and fees can have substantial financial consequences. Understanding basis points clarifies how these small changes are communicated and influence the cost of a loan.
Understanding Basis Points
A basis point represents one one-hundredth of a percentage point, equivalent to 0.01% or 0.0001 in decimal form. Thus, 100 basis points equal a full 1% change. Financial professionals use basis points for precision when discussing small changes in financial instruments. For example, a 50 basis point interest rate increase clearly signifies a 0.50% rise.
Application in Mortgage Lending
Basis points frequently appear in mortgage lending. Lenders and market analysts use them to describe adjustments in mortgage interest rates, such as a 25 basis point change. This measurement is also important for adjustable-rate mortgages (ARMs), where the interest rate fluctuates based on market benchmarks.
Loan origination fees, which cover processing and underwriting costs, are often quoted in basis points. A 100 basis point origination fee signifies a charge equal to 1% of the total loan amount. Discount points, paid upfront to reduce interest rates, are also expressed in basis points. One discount point typically equals 1% of the loan amount and often reduces the interest rate by approximately 25 basis points or 0.25%.
Calculating Mortgage Costs with Basis Points
Understanding how basis points translate into dollar amounts directly impacts a borrower’s mortgage costs. For instance, if a 30-year fixed-rate mortgage at 4.00% sees a 25 basis point increase, the new rate becomes 4.25%. Even this small change can lead to a significant difference in monthly payments and total interest paid over the loan’s life, potentially adding thousands of dollars.
A loan origination fee of 150 basis points on a $300,000 mortgage translates to a cost of $4,500 (1.5% of $300,000). Origination fees typically range from 0.5% to 1.5% of the loan amount. If a borrower pays 2 discount points (200 basis points) on the same $300,000 loan, the upfront cost would be $6,000 (2% of $300,000). These examples demonstrate that while basis points represent small fractional changes, their cumulative financial impact on a mortgage can be substantial.