How Are Points Determined in a Mortgage?
by Carrie Shea Thomas
Points are calculated by taking 1 percent of the total mortgage. In the instance of a $150,000 mortgage with a 5 percent rate, one point is equal to $1,500 (the interest rate is irrelevant). Home buyers have the option to pay 0 to 4 points toward their mortgage to lower their interest rate by paying discount points, or having a tax deduction by paying origination points. How many points one can pay depends on the lender.
Discount points are funds directed as prepaid interest on the loan. By paying interest up front, the borrower lowers the interest rate on the mortgage. Thus, paying points translates into a lower monthly mortgage payment. Repayment of points through the monthly payment discount can take years before the payment of points is profitable. Therefore, this is most beneficial for people who intend to live in the house for a long time. Discount points are tax deductible.
Origination points help cover the cost of making the loan. The lender can decide to charge these points, and if the point is payment toward obtaining the loan and not closing costs, the money is tax deductible.