Points in Lending

Financing

What are points in lending?

Here is a quick list:

• They are charges you pay to obtain a home mortgage 

• They are gross profit for the loan originator 

• Up-front mortgage interest fees that are intended to reduce the interest rate 

• They usually equal to 1 percent of the total loan amount 

• They are part of the loan origination fees 

• They’re charged by a lender to raise the yield on a loan when money is tight, interest rates are high, or there is a limit on the interest rate

• They come in two varieties 

Points are all of the above and more. They are usually used to pay for a lender’s overhead, like salaries, building leases, employee benefits, and other other expenses. Typically paying one point lowers the interest rate on a loan by ¼ percent, two points ½ percent and so on.

Usually a “no-point” loan has a higher interest rate than a loan with points. Paying points on your mortgage now means you will pay less interest later. Lowering the rate reduces your monthly principal and interest payment. In essence, points equal prepaid interest. 

When using conventional loans, the borrower or the lender can pay the points or they can agree to pay a percentage. On HUD and VA loans, borrowers legally cannot pay the points—the seller is required to pay!   

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Discount Points

Discount points are prepaid interest on your loan —what’s happening here is, you are paying your finance charges in advance. Discount Points are used to "buy" your interest rate down. This is known as a rate "buydown." One Discount Point lowers your fixed rate by .250 percent or your adjustable rate by .375 percent. Paying for these points will  lower your interest rate for the entirety of the loan.

So, obviously more points you pay the lower the interest rate on your loan. Paying discount points is a good idea if you plan to live in the house for a long time.

Using the discount points as a tax deduction! You can deduct the points in the year that they are paid, as long as the following requirements are met:

•  You are liable for the debt,  and the loan is secured by your home. 

•  Paying points is a common practice in your area. 

•  The points you paid did not exceed the amount generally charged in that area. 

•  You use the cash method of accounting. This means you report income in the year you receive it and deduct expenses in the year you pay the points. 

•  The points that you paid were not used for items that are separately written on the settlement sheet - like as appraisal or inspection fees, title fees, attorney fees, and property taxes. 

•  You use your loan to buy or build your home of residence.

•  The points were computed as a percentage of the principal amount of the mortgage.

•  The amount is clearly shown on your settlement statement.

Origination Points

Origination points are charged by your lender to evaluate, prepare, and submit a proposed mortgage loan (the costs of creating the loan) or to boost profits. Some loan officers’ compensation is based on origination points. Sometimes lenders add origination points to their quoted points while others add an origination point in addition to their quoted points. Where discount points serve the borrower by lowering the interest rate, origination points are gross profit for the lender. These are not tax-deductible.

For more information, or if you are interested in purchasing a new home, please contact me!