Mortgage rates have been on the rise over the years, making it an unsustainable option for most Americans who would like to own a home. Transunion, one of the credit reporting agencies, predicts a significant rise in rates on 30-year mortgages, by as much as 5%.

Another deterrent for most people looking to own homes is increasing house prices. The median cost of a house in America now stands at $276,000. This price is high and may be out of reach for most aspiring homeowners.

As such, this might be the best time to try out new strategies that might potentially help homeowners afford their homes. One of these is mortgage points.

What are Mortgage Points?

Mortgage points are charges to you that are applied when you take out a mortgage to buy house; points, however, actually reduce the mortgage rate. But you pay points up-front. One point is equivalent to 1% of the mortgage price. This means that if your mortgage is $200,000 a point would be $2,000.

A lender can choose to charge points or not. They can also choose to charge several points, or even 1.5%, which on the same $200,000 mortgage would amount to $3,000.

These points are listed on a Loan Estimate which you get after applying for a mortgage. Before settlement, you also get another form called the Closing Disclosure where the points are also listed.

You must be proactive because it is not an option many lenders pursue.

Are mortgage points right for you?

According to the Consumer Finance Protection Bureau, using mortgage points saves you significant amounts in the long run.

If you were to take out a $180,000, 30-year mortgage at an interest rate of 5% with 0.375 points, you would pay $675 more in closing. This would lower your interest rate to 4.875%, thus saving you approximately $14 each and every month for the life of the loan. The same mortgage with no points means you don’t save anything and will pay the full amount.

Option 2: Discount Points

Discount points are more or less prepaid interest on a mortgage loan.

How does it work?

The more points you pay, the better the interest rate on your mortgage loan. Paying your discount points is called “buying down the rate.”

How much you save is dependent on how many points you pay. Talking to your mortgage lender will help you figure out how much to pay in accordance with their structure.

In addition, the lender’s structure, type of hard credit check loan listed here , and the mortgage market are the main factors that determine how much lower your interest can go.

When should you buy points?

For most people, tax reduction is a major factor when choosing whether to buy points or not. However, in order to capitalize on tax deductions, you have to itemize the points to take the break.

With the standard deduction set to rise to $24,400 for married couples filing jointly and $12,200 for single filers, not many house-buyers will itemize their deductions. For this reason, it is prudent to consider other factors other than taxes before buying points.

There are two major deciding factors that should be figured into an equation:

• How long will you stay in the home?
• How much you will pay at closing

If there is a chance you will move in a few years, buying points is not the best option. According to financial analysts, buying down your interest rates through purchasing mortgage points makes financial sense only when you plan to live long in the home.

The longer you benefit from the discount points, the higher the return on investment. If you plan to relocate, consider choosing the zero-point option to get lower closing costs. Buying points makes sense only when you will continue to own the home after you have reached a break-even point.

Use an online calculator to figure out how much you will pay monthly throughout the loan duration. You can also ask the loan officer for assistance when calculating which one makes better sense, if you’re unsure of how long you will stay at the home.

Banks can also explain how the points work and calculate how long you will have to be in the home for the points to be worthwhile.

In addition, consider whether you have the money to buy points. Home buyers are required to make a 20% down payment on a home to avoid private mortgage insurance. If you do have enough to make the down payment and buy points, calculate how much your monthly savings are and compare it to the monthly savings without buying points.

If they cancel out, consider a zero-point option and save the money.

A general rule to go by is, it takes five to seven years to break even when you pay down the points. If you will not be in the house that long, forego the points.

Advantages of Mortgage/Discount Points

• Discounted rates: Buying points lowers your monthly payments and overall interest rates. However, this is only favorable to the buyer when buying the house as a long-term investment.

• Tax breaks: Points are tax deductible when applied to the cost of the loan, but not closing costs. This is particularly useful during your first year of owning the home.

• Lower payments: Reduced monthly payments make it easier for homeowners to manage in the long term. This means it also takes a shorter time to break even leaving you more years to enjoy the savings.

• Reduced cost of purchasing your home: Points give you more savings over the loan duration. With these savings come reduced payments, which reduce the overall cost of the house in the long term.

Disadvantages

• You are required to pay upfront: You will likely have to pay your mortgage points upfront, which can be expensive. Even if you do have enough, there’s always the alternative of putting it into investment. Investing could yield much more than a homeowner using points is likely to save in the long run. If using your rainy-day fund to pay for points, this also means that there is no money to fall back on in case you lose a job.

• Break-even point is dependent on how long you stay in the house: The break-even point when you purchase mortgage points is how long it takes for your savings to cover the cost of purchasing the points. If you move before this time, you lose out on the savings and end up paying more in points with little saving on reduced interest.

• Interest rates tend to fluctuate: If interest rates decline to where loans are available without closing costs at rates lower than you purchased your points, they become worthless.

Mortgage rates have been on the rise since the passage of tax reform and increments in hourly wages. With more money in their pockets, Americans are likely to spend more, increasing both demand and inflation.

Higher mortgage rates are the new normal, and it is likely they will keep rising. With more businesses and governments increasing borrowing, interest rates on mortgages will keep climbing. Borrowers need to be aware of all risks associated with loans.

With this in mind, buying points may very well shield you from rising interest. m