Mortgage points are optional upfront fees you pay when you take out a mortgage. Doesn’t sound like a smart move, does it?
In reality, mortgage points can save you a significant amount of money over the life of a mortgage, whether you’re taking out a new home loan or refinancing an existing one. Mortgage points, also known as discount points, allow you to effectively “buy down” your interest rate. You can determine whether paying for mortgage points is a wise financial decision with a simple formula that we’ll cover below—along with a few quick questions to ask yourself.
Here’s what you need to know about buying mortgage points.
What are mortgage points?
Mortgage points are optional fees that you can pay a lender upfront to lower your loan’s interest rate. Each point typically costs 1% of your loan amount and lowers your rate by around 0.25%, although the exact discount can vary by lender.
For example, let’s say you’re taking out a $350,000 mortgage with a 7% interest rate:
- Buying 1 point would cost $3,500.
- Your interest rate may drop to 6.75%.
In other words, you pay more at closing in exchange for less interest and a lower monthly payment. A simple calculation can help you determine whether mortgage points are worth it before you commit to the upfront cost.
Mortgage points vs. origination points and temporary buydowns
You may come across other types of points when you take out a mortgage as well.
Some lenders, for example, use the term “origination points.” Unlike discount points, origination points are fees that lenders charge to make your mortgage loan. They don’t lower your rate.
Let’s say a lender charges you a 1% origination fee on a $350,000 mortgage:
- You would owe $3,500 in lender fees.
- The lender may express the $3,500 charge as one origination point.
You may also come across the term “temporary buydowns.” They’re similar in spirit to discount points, but they don’t provide a permanent rate reduction. Instead, temporary buydowns lower your interest rate for the first few years before the interest rate returns to its original level. Sellers or builders often fund temporary buydowns as an incentive for buyers.
Mortgage points in action
You’ll often find mortgage points baked into advertised loan rates. For example, a bank may promote an incredibly low rate that looks like a great deal at first glance, but it comes with high upfront costs because you’ll need to purchase mortgage points.
One lender may advertise a rate of 6.25%, but only if you buy points upfront. Another lender might offer a rate of 6.75% with no points. When you add up the actual costs, the higher rate may actually be the better deal. That’s why it’s important to also look at the APR, which includes both interest and certain lender fees associated with the loan.
The mechanics of “buying down” your rate
Let’s go back to that theoretical $350,000 loan with an interest rate of 7% and a 30-year term. Each mortgage point may reduce your rate by about 0.25 percentage points and will often cost 1% of the loan amount, or $3,500. In this example, reducing your rate to 6.50% would cost you $7,000.
At 7%, the principal and interest payment is about $2,328 per month. At 6.50%, the principal and interest payment drops to about $2,212 per month—a savings of around $116 per month.
Over the full 30‑year term, that’s more than $41,000 in interest saved in exchange for that $7,000 you paid upfront. That’s a good deal if you keep the loan long enough for your monthly savings to exceed the upfront cost.
The break-even analysis: Your primary decisiontool
Pinpointing your break-even point is a simple way to decide whether buying mortgage points makes sense. To find this figure, use the following formula:
Cost of points / monthly savings = number of months to break even.
Using the above example, the formula would look like this: $7,000 / $116 = 60.34 months. That means your break-even point is roughly five years. As long as you don’t plan to sell or refinance (or pay off the loan) before then, buying mortgage points could save you money.
Strategic considerations: Moving beyond basic math
Even when the break-even math makes purchasing points look like a no-brainer, there are a handful of other considerations.
Market conditions: Evaluating points in high vs. low interest rate environments
When rates are high and likely to fall, buying points can be risky. It could make more sense to refinance in a few years, meaning you may never reach your break-even point and your upfront investment to lower your rate could go to waste.
Mortgage points generally make the most sense when rates are stable and you expect to keep the loan long enough to reach your break-even point.
Other ways that cash could work for you
Instead of buying mortgage points, consider channeling that money elsewhere.
For example, you could use those funds for a larger down payment, which would lower your monthly payment, reduce the amount of interest you pay over time, and potentially help you avoid private mortgage insurance (PMI) if you’re able to put down at least 20%.
There’s even merit to simply wanting more cash in your savings account—just to ensure that you can weather hard times like a job loss or emergency medical expenses. Keeping current on your mortgage payment is critical, as defaulting could result in the lender taking your home.
The “flip side”: Using lender credits to offset closing costs
Lender credits are essentially the opposite of discount points; in exchange for a slightly higher mortgage rate, the lender helps cover some of your closing costs. This can make sense if you think you’ll sell or refinance before the higher interest rate costs you more than you saved at closing.
Ultimately, deciding between mortgage points and lender credits comes down to liquidity, and the right answer won’t be the same for everyone. Which matters more to you: lower upfront costs or a lower monthly payment?
Are mortgage points tax-deductible?
Mortgage points are often tax deductible in the year you paid for them if you itemize your deductions and meet IRS requirements. Still, because the rules can be complex, it’s wise to confirm with a tax professional.
The process can work a bit differently with a refinance or a second home. In many cases, you can’t deduct the points all in the first year. Instead, you may need to spread the deduction out over the life of your loan. For example, if you purchased points on a 25-year refinance, you may be able to deduct a portion of those points each year for as long as you keep the loan.
A decision framework: When should you buy points?
You should now have a good idea of when mortgage points make sense based on your break-even point. Here are some more specific details to consider.
Scenarios where paying for points is a clear financial win
Buying points may make sense if several of the following are true:
- You think you’ll keep your mortgage for 10 years or more.
- You highly doubt you’ll refinance anytime soon because rates seem stable (or may even rise).
- You have plenty of cash reserves.
- You itemize deductions, and deducting mortgage points could meaningfully reduce your tax bill. (The tax savings may be more valuable for borrowers in higher tax brackets.)
- Your mortgage amount is sizable.
When to keep your cash: Warning signs for homebuyers
Again, buying mortgage points isn’t a slam dunk for everyone. It usually makes sense to avoid buying points if:
- You think you’ll either relocate or refinance in the next few years.
- You wouldn’t have a comfortable amount of emergency savings after buying points.
- You suspect mortgage rates will drop within the next few years.
- You could better use your money elsewhere, such as for a bigger down payment.
How to shop for the best deal on points
There’s a method to buying mortgage points. While you don’t negotiate with your lender (no haggling involved), you can shop around with multiple lenders to find the best deal.
No matter which lender you choose, one mortgage point typically costs 1% of your loan amount. However, the value of that point can vary. You may find a lender that reduces your rate by 0.25% per point, while another may be half as generous and offer a reduction of just 0.125%.
This is why it’s important to compare loan offers from several lenders. If you’re interested in buying mortgage points, we recommend getting at least three quotes to help you understand the market average. Request them as close together as possible, since mortgage rates can change from day to day.
Using the loan estimate to compare mortgage offers
The Loan Estimate is a standardized form that every lender is required to use. You can use the Loan Estimates you receive to easily compare multiple loan offers side by side.
Pay attention to a few key items on each Loan Estimate, including:
- Interest rates
- Your monthly principal and interest payment
- The specific amount you’ll pay upfront for points
It’s also a good idea to calculate your break-even point using the details from your Loan Estimates to compare offers. You can estimate the break-even point of a mortgage by dividing the points cost by the monthly savings amount.
Focusing on these numbers will help you quickly see which lender offers the best combination of upfront costs and long-term savings.
The takeaway
Voluntarily paying extra when you take out a mortgage sounds counterintuitive, but it can be a big money-saver depending on your situation. Just remember to:
- Calculate your break-even timeline.
- Check with a tax advisor to see whether your mortgage points purchase is tax-deductible.
- Compare mortgage points across at least three lenders.
- Keep a comfortable amount of cash reserves in your savings at all times.
If you plan to keep your mortgage for a while (think 10 years or more), and if you don’t expect to refinance anytime soon, you may well save tens of thousands of dollars over the life of your loan for a comparatively modest upfront investment.
