What Do Points Mean on a Mortgage?

Discount points help you save on interest.

Discount points help you save on interest.

The mortgage-process can be confusing for first-time home buyers. Among the many things you will have to consider is whether to pay points on your mortgage. Since points represent an extra expenditure, your first thought may be to say no. However, one type of point can help you save money over the life of your loan.

Definition

You might think you will only have to concern yourself with a down payment and good credit when you seek a mortgage, but buying a home can get complicated. You may also pay points on your loan. Points are fees you pay to the lender in excess of any down payment you agreed to. They are usually included in your closing costs.

Discount Points

You may have to pay two types of points when you seek a mortgage. One type is referred to as discount points. This type will allow you to pay less interest on your mortgage. Discount points are essentially prepaid interest and equal 1 percent of your mortgage amount. For every $1,000 you pay in discount points on a $100,000 loan, your interest rate will be lowered by a percentage. Typically, these points are negotiable, and you can choose to pay up to three or four points on a mortgage. The percentage your interest will be lowered depends on the lender.

Origination Points

You will not benefit from paying origination points but your lender sure will. These points are fees your lending institution adds to your loan for the purpose of recouping the costs it faces in processing your loan. One point equals 1 percent of your loan. If you are required to pay one origination point on $250,000 loan, you will pay $2,500. Since these points don't benefit you, negotiate them as low as possible. With excellent credit and money to put down, you may get out of paying origination points altogether.

Tax Break

If you pay discount points, you may get a break at tax time. If you itemize your deductions, you may deduct your discount points on Schedule A of your tax return. You may not qualify for this deduction if you do not itemize. Additionally, the Internal Revenue Service (IRS) has strict criteria for qualifying for this deduction. IRS Topic 504 provides details about the criteria (See Resource 1). Origination points are usually not deductible on a tax return.

 

About the Author

I am happy to write for any of Demand's sites.

Photo Credits

  • hipoteca americana image by caironbohemio from Fotolia.com