Purchasing a home will be one of the most significant financial decisions most will ever make. Therefore, shopping for the best mortgage rate and ways to reduce the monthly mortgage payment and interest rate is essential.
Aside from shopping for the best mortgage rate, borrowers may hear that they can “buy down the rate” to lower the interest they pay on the mortgage loan. But what does this mean?
Buy Down the Rate
To “buy” down the rate means that you can pay “mortgage points” to obtain a better interest rate. Each “point” equals one percent (1%) of the loan amount. So, for example, on a $200,000 loan, a point would cost a borrower $2,000. You can pay points in fractional amounts, for instance, ¾ of a point, 1½ points, etc. The amount you pay for points may vary significantly from lender to lender, and you should always ask when quoted a rate if it includes any points.
Whether or not you should pay points depends entirely on your financial situation and how long you intend to keep the loan. Mortgage lenders can help you determine whether it makes sense to pay points for a lower rate and can also help you calculate the number of months it will take to recoup the upfront outlay of cash.
For instance, if buying down a rate costs you $2,000 and lowers your monthly payment by $100, it will take 20 months to recover that initial outlay in reduced payments. However, if you plan on staying in the home longer and having cash available to buy down the rate, that may be worthwhile.
There is no standard calculation for determining how many points are necessary to buy down a rate. Each lender is different. One lender may charge 1 point to get a ¼ point lower interest rate, while another may charge only ½ or ¾ point. It is always best to look at the APR (annual percentage rate) that lenders must quote along with the interest rate. The APR makes it easier to compare one lender’s rate to another because lenders must include the effect of paying points and other fees on the overall cost and rate of the loan.
We specialize in mortgages for first-time homebuyers, conventional home mortgages, refinance loans, reverse mortgages, and FHA, VA, and USDA mortgage options. In addition, we’ve worked extensively with cash-out refinancing and help clients to lower their monthly mortgage payments.
Updated on August 10, 2022