Friday, September 14, 2012

To Pay a Point or Not to Pay a Point?

Should a home loan borrower pay an additional point - think 1% of the loan amount - to lower the rate of the loan over its amortization period? The answer is: maybe....

The answer is in the arithmetic and what you think of the future.

First - if you pay an additional point - how much will the loan interest rate and the loan payment decrease of the life of the loan?  And what is the recoup time to cover the point?  If your loan payment goes down by $50 per month on a $100,000 loan and it costs you $1,000 to get this reduction - then the recoup time is 20 months.  So, on a strictly numerical basis, if you keep the loan for more than 20 months, then the payment of the $1,000 is well worth it.  If you happen to sell the home or refinance the loan before 20 months, then you have not achieved a full benefit of paying the point.

Second - What is interest rates move lower and you want to refinance to get a better rate.  Your break even point is now $1,000 further away.  This is neither good nor bad - just an issue of checking the arithmetic again.

And finally - who ever holds their loan for 30 years??? OK - that was a separate issue, but one that should be considered when thinking Rate, Term and Points.

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