What Are Points on a Home Loan?

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The term "point," when referring to a mortgage, refers to 1 percent of the loan value. If the loan amount is $200,000, one point would be $2,000. Points can be charged in fractions also. The smallest point amount is usually one-quarter of a point. A lender will quote costs in points, and a homeowner must multiply the projected loan amount by the the points as a percentage to convert the points into dollars. For larger loan amounts, points will be more expensive than on a smaller mortgage amount.

The two types of mortgage points are origination fee or points and discount points. An origination fee is the lenders charge to underwrite and process the loan. The typical origination fee is one to two points. Discount points are points charged to obtain a certain interest rate for the loan. A homebuyer can elect to pay more points to get a lower rate or accept a higher rate and pay fewer points. The Moving.com website notes that one discount point will lower the rate on a fixed rate mortgage by one-quarter percent.

Discount points allow someone financing a home to select a rate and payment that fits their budget. Paying discount points up front to lower the rate a quarter, half-percent or more will result in a lower monthly payment. The cost of discount points is usually earned back through lower payments in five to seven years. On the other side, if the mortgage applicant wants to minimize the upfront costs, she can select a rate where there are zero discount points.

Whether it is called an origination point or discount point, the value of each point is the same. Some lender charge no origination fees but may have higher discount points for the same rate. One difference is that discount points may be tax-deductible if the homeowner itemizes his deductions. The tax deduction is worth more on the purchase of a new home. Deducting discount points on a refinance must be spread over several years of tax returns.

A homeowner or buyer looking for a new mortgage must compare the total points charged as well as the interest rate. Some lenders advertise a rate with one or no points, and others will advertise a lower rate, but the rate requires the payment of several points. When shopping for a mortgage, you should go with the lender that charges the least total points for the interest rate you want.