Point or No-Point, Ask the Lender

I'd like to discuss point versus no point loans, and the term par pricing. These are common topics with many of my customers.

What are "points" and why would I pay them?

A "point" is 1percent of the loan amount - for example, $1,000 on a $100,000 loan. The points can be broken down into 1/8ths or .125 percent. This equals $125 for every $100,000. There are different types of points you may pay, but first let's talk about the term "par".

What does "par" mean?

"Par" is the interest rate that applies when you are expected to pay all the fees at closing. Think of it as the benchmark interest rate. Par is basically neutral. You can lock into a higher or lower rate than par if you want. The decision is yours to make based on your financial needs. Most borrowers are unaware that they can choose their interest rate.

Normally when lenders quote an interest rate they will be quoting the "par" rate. Keep in mind that rates move up and down on a daily basis and change from program to program. A 15-year fixed rate loan with a 20 percent down payment will have a lower interest rate than a 30-year loan with no down payment. The 30-year loan is a riskier loan and banks charge a higher interest rate based on risk. This is a great example of why it is important to make sure you are comparing the same loan types when looking at interest rates.

What is the 1-point origination fee?

The origination fee is charged by whoever originates or starts the loan, and it is usually 1 percent (1-point) of the loan amount. There is normally a fee associated with doing a loan, though not always shown as an origination fee. It is helpful to know what the par rate is when comparing rates as you will see when we discuss the other types of points below. A 1-point origination fee is an industry standard. Some of the riskier or more creative loans and commercial deals can have four or more points in origination.

What is a "discount point"?

This is a frequently asked question when discussing points and interest rates. A discount point is an additional fee paid to the bank to receive a lower interest rate. The lower rate can save you money over the long run. It may be necessary to pay discount points to lower your monthly payment to a comfortable range, or help you qualify for a particular program. Discount points are not an inherently bad thing for borrowers; they are just another tool you can use to help create the best loan scenario.

What is a "Rebate Point"?

A rebate point is where you pay a slightly higher interest rate to the bank and in turn they give you an up-front credit. You may be wondering why anyone would pay a higher interest rate voluntarily. It often makes sense to receive a slightly higher rate and in turn save money by having the bank pay some, or all, of the closing costs with the rebate they will give you for choosing the higher rate. The higher interest rate may save you money if you are only going to be in the home or in the loan for a shorter period of time.

Let's take a look at how some of this works.

A $200,000 loan with a 1 percent origination fee of $2,000, at the "par rate" of 6 percent would have a monthly principle and interest payment of $1,199.10 (not including taxes and insurance). If you paid .375 percent ($750) to buy down the rate to 5.875 percent you would a have a monthly principal and interest payment of $1,183.08 and save $16.02 per month. It would take you 46.5 months to recapture the $750 you spent.

On the flip side, let's say you opted for a .375 percent rebate from the bank. This would allow you to keep the $750 in your pocket while paying $16.02 more per month. If you sell the house or refinance the loan before the 46.5 month mark, you come out ahead. If you sold your home after living in it for 20-months you would save nearly $430.

I hope I have helped you understand a little better the, "point or no point" issue. Points are just financial tools you can use to help create the loan scenario that best fits your needs. This should be an important part of your discussion with your lender when picking the right loan and locking in your interest rate.

Marc Erickson is a mortgage loan consultant with a locally owned and operated mortgage banker and broker. He may be reached through editor@sdistrictjournal.com.[[In-content Ad]]