Are Mortgage Points a Scam?

Are mortgage points a scam? Sometimes. Mortgage points, also referred to as discount points, are a tool offered by lenders to help borrowers lower their mortgage interest rates in exchange for an upfront fee. You are basically prepaying the loan's interest. Points can be a great tool to lower your payment long term, but they can be a money losing endeavor if you aren't careful.

What Are Mortgage Points?

Mortgage points are fees you pay directly to your lender at closing to reduce your loan’s interest rate. You Loan Officer may use the phrase "buying down the rate."

• Cost of Points: One mortgage point equals 1% of your loan amount. For example:

  • On a $200,000 loan, one point costs $2,000.

  • On a $400,000 loan, one point costs $4,000.

• Rate Reduction: The exact amount of your rate reduction will vary by lender and market conditions.

When Are Mortgage Points Are a Scam

1. Misleading Sales Tactics: Some lenders may advertise low interest rates that are only achievable if you purchase points, without clearly disclosing the associated costs. You may be pressured by a Loan Officer to buy points as they are advantageous to the lender even if they may not fit your financial plan.

2. Complexity: Points aren't straightforward and your Loan Officer may intentionally add complexity to the process to sell you something you don't need. While some lender will do round numbers for points (.5, 1, etc.), some use complex numbers like .872 points which can be unclear what you actually owe and are getting (and make it hard to compare value with other lenders).

3. Short-Term Homeownership: If borrowers plan to move or refinance within a few years, the upfront cost of points often doesn’t pay off. This can make the investment feel like a waste.

4. Lack of Value: If the rate reduction per point is small, don't take the point. You can shop points just like you shop rates.

When Mortgage Points Make Sense

Mortgage points are a tool, and can be a great one depending on your goals:

• You Plan to Stay Long-Term: If you’ll be in the home for many years, the savings from the lower interest rate can exceed the upfront cost of the points.

• You Have Extra Cash: If you have enough cash to cover the points without dipping into emergency funds, it may be worth the investment.

• Your Loan Amount Is Large: Larger loans yield greater savings from even small reductions in interest rates.

• Interest Rates Are High: Buying points can be more valuable when base rates are higher.

When Mortgage Points Might Not Be Worth It

• Short-Term Plans: If you plan to sell or refinance before breaking even on the upfront cost, buying points is not cost-effective.

• Tight Budget: If paying for points leaves you short on cash for emergencies or other expenses, it’s better to prioritize financial stability.

• Already Low Rates: In a low-interest-rate environment, the incremental savings from points may not justify the cost.

• Better Alternatives: Instead of paying for points, you might use that money to increase your down payment, reducing your loan balance and monthly payments without locking into a specific rate reduction.

How to Avoid Getting Scammed

1. Calculate the Break-Even Point: To determine if points are worth it, calculate how long it will take for your monthly savings to equal the upfront cost. For example:

   • Cost of Points: $3,000

   • Monthly Savings: $50

   • Break-even Point: $3,000 ÷ $50 = 60 months (5 years).

   If you won’t stay in the home beyond 5 years, buying points may not make sense.

2. Understand the Terms: Ask your lender to provide a clear breakdown of:

   • The cost of points.

   • The exact interest rate reduction.

   • The total savings over the life of the loan.

3. Compare Offers: Shop around to compare mortgage quotes from multiple lenders, including options with and without points.

4. Ask Questions: If you’re unsure about how points work or whether they make sense for you, don’t hesitate to ask your lender or consult a financial advisor.

The Bottom Line

Mortgage points are usually not a scam, but they require research to determine if they align with your goals. They’re most beneficial for borrowers who:

• Plan to stay in their home long-term.

• Have the cash to cover the upfront cost.

• Want to secure a lower interest rate for significant long-term savings.

Always do the math, ask for transparency from your lender, and weigh your options.