Using Points to Lower Rates – Is it Worth it?
Borrowers should calculate the break-even point when buying discount points. They may lower the mortgage rate, but it might not be cost-effective overall.
NEW YORK – According to a recent Zillow Home Loans analysis, 45% of borrowers purchased mortgage points in 2022 to reduce their monthly payments, up from 29% of borrowers in 2021.
Nicole Bachaud, senior economist for Zillow, said, "We started seeing more buyers purchasing discount points as soon as mortgage rates ticked up in 2022. We don't have data for 2023 yet, but since rates are relatively high compared with the last couple of years, we’re likely to see just as high or even a higher share of borrowers paying for points this year."
One mortgage point can lower a mortgage rate by 0.25%, and each point costs 1% of the loan balance. For instance, a discount point on a $400,000 loan would cost $4,000 to lower the mortgage rate from 6.5% to 6.25%, saving a borrower approximately $65 a month.
The appeal of buying points to reduce mortgage rates over the life of the loan is tied to higher home prices and mortgage rates. Mike Salierno, a financial advisor with Northwestern Mutual, a financial services company in Clearwater said, "Sometimes people just want to be able to say they have a mortgage rate under a certain threshold or one that's better than their neighbor's."
When borrowers are looking at purchasing discount points, they should calculate their break-even point, which is when monthly savings exceed the amount of cash you paid for the point. For instance, if you buy a point for $4,000 on a $400,000 loan, the break-even point wouldn't come unless the borrower remains in the home for at least five to six years.
Zillow's analysis also showed that the buyers purchasing homes in the middle and top price tiers of their market are the ones that purchased the most discount points. Additionally, the analysis showed borrowers who earned between 30% and 50% of their area's median income paid for points more often. Some of these borrowers also are eligible for first-time buyer programs and down-payment assistance with lower closing costs and they use their savings to buy down their mortgage rates to reduce monthly expenses over the life of the loan.
The analysis also showed that cash-out refinance borrowers were more likely than other borrowers to buy mortgage points because often they plan to stay in the home for a longer period of time. Experts also say that if you have enough cash to make a 20% downpayment on a home, that will have a bigger impact on monthly mortgage payments than buying down the mortgage rate because the downpayment often means you don't have to pay for private mortgage insurance.
Source: Wall Street Journal (09/11/24) Lerner, Michele
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