“Gary, can you answer a question about loans and points? On the home were buying, were trying to decide if its worth paying points on our loan. Were kind of lost. How do you figure that out?”
***ANSWER:
Whether you pay points primarily depends on how long you plan to keep the loan. (Other factors: having $$ available to pay points or needing a lower payment to qualify or fit your budget.)
Heres a rough rule of thumb to determine if you should pay points:
Divide the total $ amount of the loan points by the monthly savings on your mortgage payment if you paid points. For example, lets assume:
– Your mortgage is $500,000
– Your 30-year fixed-rate loan choices are:
6% w/ 2 points
6.75% w/ 0 points
With 6.75% / 0 points, your monthly loan payment is $3243.
With 6% / 2 points, its $2998.
Heres the formula:
Cost of points / Monthly mortgage savings = # months to break-even
So lets figure it out
Cost of points:
2 points = 2% of $500,000 = $10,000
Monthly mortgage savings:
$3243-$2998 = $245/month savings if points paid
$10,000 / $245 = 41
That means your break-even point is 41 months.
In other words, if you hold your mortgage less than 41 months, you lost money by paying points. If you hold it more than 41 months, you made money.
So
If you think youll keep your loan for less than 41 months, take the higher rate and dont pay points.
Hope that helps.
NOTE to my mathematician, CPA, and economist friends: Yes, you noticed I ignored the time value of money as well as any tax impact. This is a simple analysis and Id rather avoid the brain damage of trying to factor everything in…
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