For investors, understanding the concept of points in mortgages can be tricky. It’s often challenging to decide whether it’s worth buying points or not.

But what if I told you there’s a third option, one that many mortgage lenders may not prefer?

Let’s begin with some basics, but if you’re already familiar with what points are, feel free to skip ahead to . . . An Alternative Approach: Holding the Money Separately.

Determining whether to pay points or manage your mortgage points yourself boils down to how long you plan to keep your mortgage. In simpler terms, it’s about when you expect to pay it off or refinance, and your prediction of how interest rates will behave in the future—whether they’ll rise, fall, or stay the same over the next few months or years.

Understanding Mortgage Points

Mortgage points are upfront fees that you can pay to your mortgage lender in exchange for a lower interest rate on your loan. Essentially, you’re buying down the interest rate. Here’s how it works:

1. Cost of Points: Each point you buy costs 1 percent (1 pt – 1%) of your mortgage amount. For instance, if you have a $300,000 mortgage, one point would set you back $3,000.

2. Interest Rate Reduction: By purchasing points, you can reduce your loan’s interest rate. This means a lower monthly payment over the life of your mortgage.

3. Prepaid Interest: Think of mortgage points as a form of prepaid interest. You pay upfront to enjoy long-term savings.

Why Consider Mortgage Points?

Now, let’s explore why using the concept of mortgage points can be a smart move:

1. Immediate Savings: Paying points upfront allows you to immediately lower your interest rate. If you plan to hold your mortgage for a while, this can translate into significant savings over the years.

2. Breakeven Point: Before buying points, calculate the breakeven point. This is the point at which the interest savings from the lower rate offset the upfront cost of the points. If you’ll recoup the cost within a reasonable timeframe, it’s a good deal.

3. Example with a $100,000 Mortgage:
   • Suppose you have a $100,000 mortgage.
   • You decide to buy one point (1% of $100,000), which costs $1,000.
   • This lowers your interest rate by 0.25%.
   • Over the loan term, this reduction could save you hundreds or even thousands of dollars.
   • If you plan to keep the mortgage long enough to recoup the $1,000, it’s a wise choice.

An Alternative Approach: Holding the Money Separately

Now, let’s discuss an alternative strategy. Instead of paying points directly to the lender, consider this:

1. Hang on to the point money: instead of paying it at closing to the mortgage co. keep it, put it in one of your accounts, mentally allocate or notate it as the points for address 123 Main St. so you know the money is set aside for this purpose. 

2. Apply Against Mortgage Payment: When your mortgage payment is due, use those funds from to make an extra payment. Essentially, you’re paying the points yourself.

Why Is This a Better Decision?

• Flexibility: By holding the money separately, you retain flexibility.
• Interest Savings: You still benefit from the interest savings without committing the money permanently to points.
• No Upfront Cost: Unlike paying points directly, there’s no immediate upfront cost. You decide when to apply the funds.
• In case you refinance the mortgage before the breakeven point – you just saved yourself money.

Example:

Purchase price $300,000

• The 1 pt is equal to saving of $71 per month
• The breakeven point is ~30 months or ~2.5 years

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Based on this example if you refi your mortgage after 12 months you have just saved $1,245, but if you refi after 36 months – you have “lost” $464