Should I choose a mortgage with no points and pay a higher interest rate, or should I put money toward points to lower the interest rate on a mortgage?
Points are costs that a lender charges you when you take out a loan on your home. One point equals 1 percent of the loan amount borrowed (e.g., 1.5 points on a $100,000 loan would equal $1,500). Generally, the more points that you pay up front, the lower the interest rate you will pay on your mortgage loan. This can save you thousands of dollars in interest over the course of the mortgage loan.
If you pay points up front, you want to make sure that you recover the cost while you are still living in your home. If you move before you recover the costs of the points, you really won't be saving any money. You can determine how many months it will take for you to recover the cost of the points by dividing the amount you pay for points by the amount you save on your mortgage loan. For example, if you pay $1,000 in points up front and you save $40 a month in interest, it will take you 25 months to recover the cost of the points (1,000 divided by 40 equals 25). If you plan on staying in your home for less than 25 months, you will lose money on the points that you paid up front.
Keep in mind that the cost of points is negotiable and is often split between the buyer and seller. Points may also be deductible on your income tax return.