Financing Solutions with David Reed

Points:To pay or not to pay

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Numerous closing costs come with any mortgage. There's a fee for an appraisal and a fee for a credit report... and the lender has its fees, too. And don't forget about the attorney fee, title insurance and escrow charges. Closing costs can vary from state to state and province to province, but you really don't have much choice of whether you want a survey or if title insurance is right for you. There will be a variety of services performed and records searched by different companies, and none of these come free of charge.

But there is one closing cost that you can control: discount points or, more simply, points.

A discount point reduces the interest rate on your mortgage. One point is equal to 1 percent of your loan amount, so on a $200,000 loan one point equals $2,000.

Why do some lenders charge points? In reality, all lenders pretty much have the same rates; it's just that sometimes a lender will advertise a rate with a point or a rate without a point. But the decision to pay a point is yours alone.

A point will typically reduce your interest rate by a quarter of a percent on a 30-year mortgage. If your lender offers a 6.5 percent rate with no points, then you may also get 6.25 percent with one point. So how do you decide?

It's simple. Just take the difference in monthly savings gained with the lower rate and divide that into the point. The result equals how many months it will take to "recover" the amount

you paid in points. Let's look at an example.

A 30-year fixed-rate mortgage of $200,000 at a 6.5 percent interest rate would mean a monthly principal and interest payment of $1,264.14. By paying an additional $2,000 in the

form of a point, your rate would drop to 6.25 percent and the resulting payment would drop to $1,231.43; saving you $32.71 each month. When you divide that $32.71 monthly savings into $2,000 you get 61.14, or about 61 months. Your recovery

period is slightly over five years. That's a little long in my opinion and I've never been a big fan of paying points. Instead, I'd encourage you to take that same amount and pay down your principal.

Remember: The quarter percent difference in interest rates when paying a point is an imprecise, general mortgage rule of thumb. Whichever rate you get, be sure to divide the savings into the points paid to see how long it will take to recoup the difference.