What are mortgage points, and are they worth buying?

Discount points are prepaid interest. One point costs one percent of the loan amount and typically reduces the rate by somewhere around a quarter of a percentage point, though the exchange rate varies by lender and market conditions. On a 400,000 dollar loan, one point costs 4,000 dollars upfront in exchange for a permanently lower payment. Origination points are a different thing despite the shared word, representing lender compensation rather than a rate reduction, so confirm which the lender means.

The calculation is a break-even. Divide the cost of the points by the monthly payment savings to get the number of months required to recover the outlay, which commonly lands somewhere between five and eight years. If you keep the loan past that point you come out ahead, and beyond it the savings continue for the life of the loan. The reason points are frequently a poor purchase is that median tenure in a home and median time before refinancing are both well short of the typical break-even, so the majority of borrowers who buy points never reach it. The more rigorous version accounts for the opportunity cost of the cash and the tax deductibility of the interest, both of which push the break-even further out.

Points make the most sense when you have high confidence you are staying, when rates are low enough that refinancing is unlikely to help later, and when you have cash beyond your down payment, reserves, and closing costs, which is the condition most buyers fail. The reverse trade also exists: negative points, or lender credits, where you accept a higher rate in exchange for the lender paying part of your closing costs, which is often the better structure for a buyer who is cash-constrained or expects to move within a few years. Compare offers using the annual percentage rate rather than the headline rate, since APR incorporates points and fees and makes structurally different offers comparable.