Hi Dave,

It is a great question to research. The first step would be to see how long you plan to live there, so you can use an amortization table and find out when your payback period is. If you plan to live there for a shorter or longer time than the payback period, it will help you make your decision accordingly.

Another thing to consider, is to think about setting some money aside for repairs, etc., depending on the specifics of the home you are buying, and the remaining life anticipated on the roof and other major components of the home. Home owners associations often plan ahead like this with an anticipated remaining life on the major components, and many buyers would be well served to consider thinking of reserves in this way.

Best regards,

Arpad
Broker Associate
Altas Realty

You really need to run the math as Steve suggests below. Everything varies over time and banks change rates and programs etc. A few years back it didn't make much sense to pay points. It was popular to take a rate that you could cover fees with. Lately it makes sense in most cases where you plan to live in the home for at least a couple years to pay the point. this will change though so any time someone gets a loan they need to do this math. There is no long term formula that a point always pays off in a set time.

Glen

Paying a point means the rate will be lower. Ask your lender what effect that point may have. It may reduce your rate an eight of a percent or a quarter or possibly more. 2 points or more may have a much bigger impact. Some jumbo loans drop a lot after you hit the 2 point or 2.5 point range. If a seller credits you money in the sale for points, that amount ought to be deductible for you on your taxes for this year. Consult a very good 'real estate oriented' CPA about that. I can recommend one or two.

If you pay 2 points, get a 5% rate and then refinance next year for another loan, guess what happened? You just paid 7% for that loan this year. If you had paid 5.5% with no points and refinanced next year you only paid 5.5% For a $400K loan that would be an extra $6K . . .

On the other hand if you pay points and get a rate that you know you will be good for you for a while (3+ years), you will probably come out ahead in paying less interest overall on that loan for the 3 year period. You continue to save money for the life of the loan if you keep it and don't refinance.

Do you think rates will be higher in the future? Lock in as low a rate as possible, pay some points.. Do you think an opportunity might come up where you could get a rate that is a half percent or more lower in the future? Pay as little as possible now to get the loan and watch for that drop so you can refinance.

Does anyone know where rates are going? Yes; everyone at work, your family, your friends, people in the real estate business, CPAs, financial planners, economists, weathermen, car mechanics, dry cleaners; just about everyone knows where the rates are going. I read an article today that we will see more chances for inflation in the next 2-5 years. Rates will be higher if that story is true.

On the other hand, $4K less on a mortgage is $4K less you have to pay back when you pay off the loan. Debt is debt. It doesn't go away.

To make your decision even harder, consider this: A lower interest rate means your loan will amortize more in your favor from the beginning. More of your 'lower payment' will go to principal instead of interest. You'll be paying down your loan in higher amounts each month with a lower interest rate. On the front page of my website (at the bottom) is a clickable url for a loan calculator. Put different rates in for the same balance and compare the principal and interest portions. You can also find a lot of amortization schedules available for excel. Download one and watch the results. You can do the same for car loans or anything else.

Mark Burns
Coldwell Banker Premier
Cupertino - De Anza branch
President - PRDS, Contracts and Forms for Silicon Valley Real Estate 2008, 2009
President - Silicon Valley Association of Realtors 2007
DRE# 00896552 licensed since 1985

Hi Dave,
I think the answer from the other agents is pretty clear. It depends how long you intend staying in the home...
If the reduction in interest rate is going to repay the amount of the point within the period that you own that home, then go for the point.
If you only intend to be in the home for a short time, the amount yu save on payment won't make up for your original points outlay, so it may not be worth it.
One thing to bear in mind, however, is that points may be counted as a tax deduction, so you might want to check with your tax accountant to see if you qualify before making your decision. The possible tax savings might mean that it will be a much shorter time before you recoup that outlay.

Hi Dave, all other things being equal, meaning if we can assume we are only talking about a change in the points, follow these steps:

1) Calculate the monthly payment WITHOUT paying the points,

2) Calculate the monthly payment WITH paying the points,

3) Take result from #1 and minus result from #2 (this is you savings per month by paying the point).

4) Now, take the cost of paying the point and divide by the result from #3 (this is your breakeven point in months time).

Now you can consider the cost vs. benefit based on the number of months/years you intend to stay. For every month you stay past the breakeven point you are saving money. Leave before the breakeven point, and you have lost money by paying the point.

Regarding the use of the $4K for paying down the mortgage, you really have to “do the numbers” again. The difference between paying down the loan by $4K and not doing so, over a standard 30-year loan term, is $4,176 (an average of about $139 per year). However, keep the $4K in the bank, and assuming an average 2% return over the same 30-years, that balance will grow to $7,285 ($3,285 in compounded interest).

So, what is best for you will depend on the exact numbers you have to work with, and your timeline for occupation; however, these two examples should help you to “pencil-out” what is your best move.

If you need help, contact me offline

Best, Steve

Ruth gave a great answer. What I have found is that different banks have different rate changes for paying points. Some banks give you a much greater rate change for paying 2 points than just one, more of a difference than between zero points and 1 point. You should definately speak with your lender about what the extra point gets you,but in general it should break even somewhere in the 1 and 1/2 to 3 year period. If you take 4k off a 30 year loan at 5.5 % the difference in payment is $24.63. If paying a point gets you to 5.25% on a 400K loan the difference is about $60 a month. If the same bank gets you down to 5% because it is your second point you save an additional 53 dollars so the total savings is $113 a month. Seems worth it to me.

Marcy

Dave, The answer is directly tied to how long you expect to keep the loan. For example. You plan to retire and move out of the area in 3 to 4 years. Put it toward down payment.
If your answer is you are here for the long term (5 years or more) pay the points to get the lower rate.
A good rule of thumb is that the lower payments give your you rate reduction point(s) back in about 4.5 years. After that it just continues to benefit you.
This "formula" holds good in all circumstances.
And yes, I am considering the "Time Value of Money".
Bill

You'll probably find that paying the point will save you the most money over the life of the loan if you plan on staying in your new home for more than a few years. Go to dinkytown.com and play with the calculators to see the difference in your payment and the interest paid over the life of the loan or ask your loan officer. Good luck.