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What are mortgage discount points?

On Behalf of | Jan 10, 2023 | Real Estate Law

Mortgage discount points lower the interest rate on a mortgage loan, and the lender charges a fee for each point. Keep reading to discover under what circumstances Virginia homebuyers might choose this financing option.

Cost of the points

Each discount point costs 1% of the loan amount and lowers the interest rate by one-eighth to one-quarter percent; a 5% interest rate may drop to 4.75%. Lenders may allow someone to purchase a maximum of four discount points, although there is no hard-and-fast rule.

Scenarios

Discount points aren’t always beneficial. But here are a few situations when paying for a discounted interest rate does make sense.

Loan approval

Buyers must meet specific debt-to-income ratios to qualify for a loan. The lender may not approve their loan application if their mortgage payment is too high for their income. Lowering the interest rate reduces the monthly mortgage payment. It could be that one or two discount points might lower the mortgage payment enough to qualify.

Buyer’s market

Sometimes, the real estate market favors the buyers, and sellers are more willing to negotiate. Perhaps sales prices or interest rates are rising, and buyers are sitting on the fence, waiting for better times. This situation is a perfect opportunity for a buyer to make a purchase offer requesting a seller to pay for four discount points. The seller might negotiate and cut that in half, but the buyer still wins.

Long-term loan

If you plan on keeping your home for an extended time, calculate the cost of the point(s) and the annual mortgage savings you’ll achieve with the lower interest rate. If you have the extra cash, and the total anticipated savings is more than the cost of the point(s), seriously consider purchasing one or more of them.

Payment

Buyers and sellers complete purchase and financing transactions at real estate closings. If the seller agrees to purchase points, the cost is credited to the buyer and debited to the seller. Otherwise, it’s added to the buyer’s closing costs.

The next time you prepare to purchase a home, consider the advantages of mortgage discount points.