Borrowers pay discount points at the closing of a mortgage to receive a lower interest rate, and subsequently lower monthly mortgage payments. Discount points are not mandatory to obtain a mortgage, but you can pay them to reduce your rate.

Calculation

Paying one discount point, on a 6% mortgage, the borrower's rate decreases by 1% to 5%. Typically, a borrower can pay discount points in 1/4 percentage point increments up to 2 percentage points of the loan principal.Discount points equal a percentage of the loan principal. For example, a $100,000 mortgage, 1 point would be:

  • 1% of $100,000 = $1000

Is it beneficial?

Borrowers paying discount points experience interest savings over the life of the loan. Use the following method to discover the total interest savings. First, use a mortgage calculator to determine the monthly mortgage payment at different interest rates. For example, a mortgage of $100,000 principal, over 30-years (360 monthly payments) at 6%:

  • The borrower pays $250. at closing to drop his rate from 6% to 5.75%. As a result, the principal and interest payment are reduced from $600 a month to $584 a month. The savings would be $16.
  • Take the $250 and divide it by the savings, $16. This will give you 15.6, which is the number of months it will take to recoup initial $250 discount point payment (16 monthly payments).
  • 360 minus 16 payments = 344 remaining payments, then multiply to $16, gives you a savings of $5043 savings over the loan.
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