4

When re-financing a mortgage, typically you get better rate when you buy points.

A typical advice regarding whether to buy points seems centered around "if you plan to sell soon or pre-pay, points may not be worth it".

However, in a situation where you:

  • Fully intend to keep the house for 10+ years
  • Fully intend to pay standard mortgage amount for 10+ years without pre-paying
  • Can easily afford as many points as you wish
  • Can easily afford 20% downpayment (e.g. no Private Mortgage Insurance concerns)
  • Fixed rate 10 or 15 year mortgage.

  • in such a situation, is there any reason, financial or not, to NOT pay as many points as mortgage seller allows?

4

The math is pretty simple. You can spend less overall if you pay points. Things to remember are:

  1. When you do the math, subtract interest you could make if you bought a CD instead of points and compare payments if you reduce your principal so your comparison is accurate.
  2. Sometimes plans change and you need to move, i.e. you get a great job offer in another state or one of your parents has failing health. You could also get a big raise or windfall and decide to pay the loan off faster.
  3. Don't assume that 1 point gets you the same interest rate reduction with every lender. Shop around a bit if you plan on paying points.
  • DSway's point (1) is really important here about the opportunity cost of buying. For instance ,if you aren't maxing out your 401(k) and IRAs it may be a better deal to put money in those rater than buy points. – rhaskett Oct 20 '17 at 16:55
  • @rhaskett - the math is FAR FAR less simple than you assume (see my comment to ventsyv). a CD for a small amount that the points cost is rather low earning, compared to savings of a lower rate on a huge mortgage. – user2932 Oct 20 '17 at 17:32
  • @DKV - CDs may not be a good strategy, especially right now. Other investments like a 401K/Roth might be. The point is that with simple math, you can make a more sound decision. Looking at all of the angles and knowing the numbers gives you confidence that you are taking the right approach for the circumstances. – DSway Oct 20 '17 at 18:18
  • @DKV Total agreement. It is complicated, but very much worth understanding. Depending on your tax bracket and state, tax-advantaged accounts can save you 20-50+% of the money you put into them in taxes. That is before the 3-7% per annum compounded you can earn by wise long-term investment on that money. Not to mention you get tax advantages on mortgage interest... complicated, but it adds up. – rhaskett Oct 20 '17 at 19:23
  • You might get an opportunity to refinance, not just if interest rates drop, but also for other reasons, for instance if your credit improves because you show a history of paying that very mortgage on time. – stannius Oct 20 '17 at 23:11
1

In such a situation, is there any reason, financial or not, to NOT pay as many points as mortgage seller allows?

I can think of a few reasons not to buy points, in the scenario you described:

  1. If interest rates decrease you could be better off refinancing to a lower rate than buying points now.

  2. If buying points reduced your down payment below 20% then the PMI would more than offset the benefit of having purchased points.

  3. Your situation changes and you aren't able to stay in the home as long as planned.

That said, current interest rates are pretty low, so I'd probably gamble on them not getting too much lower anytime soon. I also assume that if you can afford as many points as they allow, that you wouldn't have to dip below 20% down payment even with points.

Edit: Others have mentioned that it's important to note opportunity cost when calculating the benefit of purchasing points, I agree, you wouldn't want to buy points at a rate that saved you less than you could earn elsewhere. Personally, I've not seen a points scenario that didn't yield more benefit than market average returns, but that could be due to my market, or just coincidence, you should definitely calculate the benefit for your scenario and shop for a good lender. Don't forget that points are tax deductible in the year paid when calculating their benefit.

1

There is the opportunity cost.

Let's say it cost you $1000 to buy 0.25% discount. Over N number of years that saves you let's say $2000 thus your profit is $1000.

What if you took that $1000 and invested it? Would you have more than $2000 after N number of years?

Obviously answering this question is not easy but you can make some educated guesses. For example, you can compare the return you'll likely get from investing in CD or treasury bond. A bit more risky is to invest in the stock market but an index fund should be fairly safe and you can easily find the average return over 5 - 10 year period.

For example, if your loan is $200,000 at 0.25% per year you'll get $500 in savings. Over 10 years that's $5000 - $1000 to buy the point, you end up with $4000.

Using the calculator on this site, I calculated that if you invested in the Dow Jones industrial average between 2007 and 2017 you total return would have been 111% (assuming dividends are reinvested) or you would've had a total of $2110.

I'm not sure how accurate those numbers are but it seems likely that buying points is a pretty good investment if you stay in the house for 10 years or more.

  • FYI: just doing back of the envelope math, 10 years of invested $1000 at 6% growth nets you a mere $800 or so. And I strongly suspect that on any large mortgage 0.25% discount would net far more in savings over 10 years. – user2932 Oct 20 '17 at 17:31
  • if your loan is $200,000 at 0.25% per year you'll get $500 in savings isn't really true. For one thing, your principal declines over the life of the loan. It would be closer to accurate to say that if your initial loan is $200,000, then your average balance over the lifetime of the loan is $100,000, so you get $250/year in savings. But this ignores the effect of compounding, so it's actually a little more than that (e.g., if it's a 10 year mortgage at 3.25%, reducing it to 3% saves about $278/year). – Micah Oct 20 '17 at 21:45

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.