When you’re shopping for a mortgage, you may hear about “points.” So, what are they, and should you pay points or not? Let’s break it down with a real-life example to help you decide if paying points will save you money in the long run.
What Are Points?
A point equals 1% of your loan amount. If you’re borrowing $300,000, one point costs $3,000. Points are a way for you to pay upfront to get a lower interest rate. The big question is whether paying these points is worth it for your financial situation.
How Lenders Make Money
Some lenders say, “no points” but guess what? They still make money by increasing your interest rate. For example, instead of a 6% interest rate, you might get 6.5% or even 6.75%. They make money on that higher interest rate rather than charging you points upfront.
A Real Example: $300,000 Loan
Let’s look at an actual scenario to see if paying points makes sense. In this case, someone is choosing between:
- Option 1: 5.75% interest rate by paying over one point.
- Option 2: 6.5% interest rate with no points.
For a $300,000 loan over 30 years, here’s how it breaks down.
- At 6.5% interest, the monthly payment is $1,896.
- At 5.75% interest, with over one point paid, the monthly payment is $1,774.
That’s a difference of $122 per month. Now, here’s where it gets interesting.
Breaking Even
You might wonder how long it takes to make back the money you paid in points. In this case, paying points upfront costs about $4,000. If you divide that by the $122 monthly savings, it takes a little over three years to break even. If you don’t plan to stay in the home for three years, it may seem like paying points isn’t worth it.
The Big Picture: Paying Off Faster
Now, here’s the magic trick. Let’s say you’re comfortable with the higher payment of $1,896. Instead of pocketing the $122 savings from the lower payment, what if you paid that extra $122 toward your loan every month?
Doing this helps you pay off your mortgage about 4.5 years sooner. Over time, that saves you a whopping $102,000 in interest!
What’s the Right Move for You?
The decision to pay points depends on your plans. If you’re only staying in your home for a couple of years, it may not be worth it to pay points. But if you’re planning to stay longer, you could save thousands by paying points and reducing your interest rate.
- If you stay 2 years, the savings with a lower rate is about $200.
- At 5 years, the savings jumps to $7,300.
- After 10 years, you’re looking at saving $21,000.
Key Takeaway
When shopping for a mortgage, always ask your lender what the rate would be with and without points. Then, plug those numbers into a simple online tool like calculator.net to see whether or not you should pay points or not. This small step can save you big money over the life of your loan!
If you have any questions, feel free to leave a comment. We’re here to help you make smart choices with your money. And remember, don’t let debt control you; use it to your advantage. By paying attention to the details, you can save thousands and get out of debt faster!
