Understanding A Mortgage Refinance And Purchasing Points

Almost every mortgage refinance will come with the question "Do you want to buy points?" Chances are you had this same option when you got your original loan as well. I'm sure many lenders get the proverbial "blank stare" when the bring up the subject. So here we'll explain what points are, and let you know if purchasing them when doing a mortgage refinance is a good idea.

What points will do is drop the interest rate you receive, but increase the amount of fees you pay. They are simply designed to make the lender more money. Here's how it works. A point is 1% of the loan principal. So on a $100,000 loan, one point is $1000. If you purchase a point, you pay that amount up front in exchange for a lower rate.

So how do you know when to purchase points? The first question to ask yourself is how long will you be staying in the home and will it be long enough to get the money you pay buying points back? Let's look at an example. You want an $85,000 loan and you are given two options. Option one is 7% interest with 2 points. To pay for those points you will need an additional $1700 when the loan is closed. Option two is a simple 8% loan. No points will be purchased for option 2. Looking at your amortization chart you will see that it will take 29 months to recoup you upfront points payment of $1700. The decision becomes clear. If you are going to stay in the location for 30 months or more, then purchasing the points becomes worthwhile.

But as will all things money related, it is never that simple. For instance when you spent that $1700 in points, did you consider that the money is now gone. Perhaps instead of purchasing points, you could have put that money into another investment that would pay a higher return. Understanding your goals in a mortgage refinance plays a huge role in making the proper decision.

For many people the goal is to be debt free as quickly as possible. Purchasing points can help you achieve that goal. Understanding those goals will aid you in making the right decision on whether or not a mortgage refinance can help you achieve them.