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Lower Payments With Discount Points:

By Liz Clinger Updated on 11/25/2013

Mortgage points are costs that need to be paid to a lender in order to receive mortgage financing under specified terms. A point is a percentage of the loan amount (one point = one percent of the loan). One point on a $100,000 loan would be $1,000. Discount points are fees that are used to lower the interest rate on a mortgage loan (you are discounting the interest rate by paying some of this interest up-front). Lenders may express other loan-related fees in terms of points. Some lenders may express their costs in terms of basis points (hundredths of a percent). 100 basis points = 1 point (or 1 percent of the loan amount).

Should I pay discount points to lower my interest rate?If you plan on staying in the property for at least a few years, paying discount points to lower the loan's interest rate can be a good way to lower your required monthly loan payment (and possibly increase the loan amount that you can afford to borrow). If you only plan to stay in the property for a year or two, your monthly savings may not be enough to recoup the cost of the discount points that you paid up-front. Ask your lender how long it would take for your monthly savings to recoup the costs of the discount points.

Example: A lender gives Gus Wellington a choice of an $85,000 loan at 7 percent with two points ($1,700 paid at closing) or at 8 percent with no points. Which is better?

It depends on what Gus wants to accomplish. While the difference between the rates is just $58.19 per month principal and interest, it would take more than 29 months to retrieve the $1,700 ($1,700 divided by the monthly payment savings of $58.19). So paying points only makes sense if Gus is planning to hold the property for at least 30 months.

Paying points at settlement also means the borrower has lost the use of that money, plus any possible interest or investment potential.
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