Top 7 Reasons Not To Pay Points On Your Mortgage

Nearly any time you apply for a mortgage loan, you’ll be presented with a loan where you have an option to pay points, and an option to decline to pay points. Incidentally, one point on a loan equates to 1% of the loan amount. The benefits to paying points are many, including reducing your interest rate, paying down your loan faster in the early years, qualifying for a larger loan amount and so on. But while there are plenty of reasons why you might decide to pay points on your loan, there are many of reasons why you wouldn’t want to choose this option. Here are the top 7 reasons not to pay points on your mortgage loan.

1. You’re Certain You’ll Sell Your Home Or Refinance Within 2-4 Years.
   
   If you’re sure that you’ll sell your home within a few years of purchasing it, paying points may not be your best bet. For example, if you are buying what is commonly known as a “starter home,” or if you’re taking a temporary or contract job assignment, and will only be in the home for a short period of time; paying points won’t likely benefit you. This is because when you pay points to reduce your interest rate, it will generally take between 2-4 years to recoup the upfront cost.
   
   Similarly, if you’re certain that you’ll want to refinance your current mortgage within that same time period, you may want to avoid paying points. However, it’s wise to remember that just because you think you might refinance in that time, things in life do happen which may not make doing so possible. Don’t make a hasty decision.
   
   
2. You Feel Confident That Interest Rates Will Decrease.
   
   If you feel confident that interest rates will be decreasing, you may consider choosing a loan with no points. Again, because it will take you a few years to recoup the cost of paying for points, you might lose out if rates decrease and you decide you’d like to refinance. But, as we all know by now, the only thing certain in our economy, is that trying to predict what the markets will do is just plain impossible. So, use common sense. If rates are at or near historic lows, they’re not likely to decrease much further. However, should we see interest rates climb into the double digits, there’s a good chance they’ll decrease again so you may consider avoiding paying points at a time like that.
   
   
3. You Need The Money For A Down Payment
   
   There’s no getting around the fact that most lenders are requiring larger down payments these days (with VA and FHA loans being the major exceptions). So, if you are ready to buy a home, be prepared to have a sizable down payment (20% is not uncommon). If you’re having trouble coming up with the down payment, a loan with no points is probably a good option for you.
   
   
4. You Need The Money For Reserves.
   
   We all need to have extra cash on hand. If you find that you have to dip into your personal reserves in order to pay for points on a loan, you should consider a loan with no points. You should also be aware that many lenders require that borrowers have a minimal amount of reserves on hand, to ensure that the mortgage payment will be made. Check with your mortgage broker about what type of reserves you’ll need to show the lender, and how much you personally need in reserves to feel comfortable before deciding to pay points on a loan.
   
   
5. If You Can’t Finance The Cost Of Points, And Can’t Afford To Pay Them.
   
   Plain and simple, if you can’t afford to have the cost of points financed into your mortgage, and you can’t afford to pay them upfront, steer clear of loans with points. This should be an easy decision though, as the lender won’t approve you for a loan with points if you can’t afford to pay them!
   
   
6. If The Loan To Value Is Too High To Finance The Points
   
   When you decide to purchase a home, or refinance your home, the lender will look closely at the “loan-to-value” of the property. This means that they will need to determine how much they are willing to lend you, versus the total value of the property. The higher your loan to value, the more the points will cost.
   
   For example, consider that you want to buy a home that is $300,000, and you have 20% for a down payment. The loan to value of this home then is 80%, which you need financed, bringing the total amount of a loan you need (before closing costs, fees, etc) to $240,000. If you wanted to pay points on this loan, one point would cost $2,400, and two points would cost $4,800. Unfortunately the bank is only willing to finance $240,000. They will not finance the additional points. In this case, obviously, you don’t have much choice, making it another great reason not to pay points on your mortgage.
   
   
7. If The Money Would Be Better Spent Elsewhere
   
   If you have higher interest rate loans, or credit cards, and the money that you would apply towards paying points would be better spent paying off other debts, opt for a loan with no points. You can reduce other debt now and likely refinance into a new loan for your home later down the road, where you may refinance into a loan with a lower interest rate, by paying points at that time.

Ed Craine is CEO of San Francisco based Smith Craine Finance, an award winning mortgage brokerage. He was appointed Vice President of CAMB in 2007. Ed serves as an Executive Director for BNI, and is a contributing author to several NY Times Best Selling Books. Visit http://www.smithcraine.com