Though buying a house can be a wise investment, there are many closing costs to be prepared for before you're ready to move in. Points are just one of the many closing costs that buyers can pay on mortgages. Though they cost money up front, there are advantages of paying points. For those who can afford it, paying points can actually save money in the long run.
What are Points?
According to the financial website BankRate.com, every point represents 1 percent of the mortgage amount. They are a one-time payment that can be paid as a closing cost by the borrower. Therefore, if you have a $200,000 mortgage and you pay 2 points at closing, you would pay $4,000 up front.
Interest Rate
Points paid on mortgages are directly related to the interest rate of a mortgage. The more points that you pay, the lower your interest rate becomes. BankRate.com explains that the payment of points as a lump sum at closing lowers the interest rate on fixed rate mortgages. For those that have the money, this can be a wise investment, because it can save more money in the long run.
Money Saved in Interest
When deciding whether to pay points or whether to pay a higher interest rate, BankRate.com suggests thinking about how long you plan to stay in the home. The longer you stay in the home with the same mortgage, the more money you will save by paying up-front points. BankRate states that usually every point that you pay reduces the mortgage's interest rate by a quarter of a percent. That can add up to be a lot of money saved over 30 years.
Break-Even Point
The break-even point is an important tool in the process of considering whether or not to pay extra points up front. BankRate.com states that the break-even point depends on how long you plan to stay in the house and explains that if you plan to stay in the house for five years or more, it is usually a good idea to pay points. To calculate exactly how long you would have to stay in the house in order to benefit from paying points, contact your mortgage lender or ask your Realtor for a referral to a mortgage lender.
Tax Benefits
In addition to reducing your interest rate, paying points up front can also provide a tax benefit. AllBusiness.com states that you can deduct the money that you paid for points on your tax return for the year in which you bought your house. Furthermore, AllBusiness.com explains that in some states, points are divided between both the buyer and the seller. In this case, the buyer may still be able to deduct all the points paid from his taxes.
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