How mortgage points may help home buyers lower monthly costs

As interest rates have climbed, homebuyers have been confronted with higher borrowing costs.

That has led more home purchasers to opt for one strategy, purchasing mortgage points, as a way to defray higher monthly payments.

Mortgage points let buyers pay an upfront fee to lower the interest rate on their loans. In some cases, sellers will help to buy down rates to help ease transaction costs.

Almost 45% of conventional primary home borrowers bought mortgage points in 2022 to reduce their monthly mortgage payments, a trend that has continued into this year, according to recent research from Zillow.

That is up from 29.6% in 2021, when interest rates were lower.

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The 30-year fixed-rate mortgage currently averages 6.7% according to Freddie Mac, up from 5.8% a year ago. The 15-year fixed-rate mortgage now averages about 6%, up from 4.8% a year ago.

This week, the Federal Reserve decided to pause the interest rate hikes it has put in place to combat high inflation.

As rates stay higher, those who are in the market for a home lose purchasing power. Some experts have urged buyers to consider purchasing mortgage points to lower their monthly payments.

Stephanie Grubbs, a licensed real estate agent at the Zweben team at Douglas Elliman Real Estate in New York, recently did exactly that when one of her clients lowered their asking price.

“This fabulous apartment just had a price reduction, which means you can use those savings to buy down your rate,” Grubbs wrote in the updated ad.

Grubbs, a former financial advisor, said her firm started bringing up the strategy more when the Fed started hiking interest rates.

“In an effort to try to be creative, we talk to sellers about offering to buy down a rate,” Grubbs said.

Other experts say buyers purchasing mortgage points can be a great strategy for the right situation.

That goes particularly if a buyer can afford the extra upfront costs.

Mortgage points refer to the percentage amount of the loan. Typically, one point is worth 1% of the loan value, according to Nicole Bachaud, senior economist at Zillow.

If the loan value is $300,000, one point would typically cost $3,000 and lower the interest rate 0.25 percentage points, she said.

“Being able to lower that monthly payment can really help give some more wiggle room in people’s budgets and help them reach affordability,” Bachaud said.

In addition to higher upfront costs, home buyers should also weigh other factors before buying mortgage points.

“For most instances, it is definitely a considerable cost savings to be able to buy down on points,” said Kamila Elliott, a certified financial planner and co-founder and CEO of Collective Wealth Partners, a boutique advisory firm in Atlanta. Elliott is also a member of the CNBC Financial Advisor Council.

However, if you buy points and then refinance, that will not allow enough time for your upfront payment to appreciate, Elliott said.

Another important consideration is your timeline for how long you plan to live in the home.

With rates and home prices high, that means closing costs are also elevated, Elliott said.

Consequently, if you move before three to five years, you may take a bigger financial hit, she said.

“There could be a huge loss if you can’t stay in that property long enough to have those expenses amortized out over the time that you’re there,” Elliott said.

If you have extra money when buying a home, you may instead choose to increase the size of your down payment.

This can be advantageous because it creates more equity in the home, Bachaud noted. It may also lower your monthly payments.

If that extra money is enough to bring your down payment to 20% of the home purchase price, that would eliminate the need for private mortgage insurance, which adds to monthly costs for mortgage borrowers who put down less than those sums.

However, you may see more of an effect on your monthly expenses by buying points rather than increasing your down payment, Elliott said.

A point may cost $3,000 to $4,000, for example. But putting those sums toward a down payment likely will not make much of a difference on your monthly costs, Elliott said.

If you want to make sure your mortgage payment doesn’t exceed one-third of your take home income, then paying down on points could be the better option, she said.

In some situations, a seller may offer to buy down the rate, a concession to help offset costs for buyers. Grubbs said she has discussed employing this strategy with clients in her real estate practice.

“It costs less for a seller to buy down somebody’s mortgage than it does for them to take a price reduction,” Grubbs said.

Homebuyers may want to consider pursuing a 2-1 buydown, a mortgage that provides a low interest rate for the first year, a slightly higher rate in the second year and a full rate for the following years.

A 2-1 buydown may also sometimes be seller financed, according to Bachaud.

Talking to a loan officer can help you decide the best decision for your situation, Bachaud said.

How well any homebuying strategy fares in the long run depends on one big unknown: how the Federal Reserve will handle interest rates going forward.

The latest projections from the central bank call for two more rate hikes this year.

While today’s rates feel high, Elliott said she often reminds people that homebuyers in the 1980s would have loved to have had access to 6% mortgage rates.