When a homebuyer selects a mortgage, she can elect to pay extra upfront to buy down the interest rate. The charge to get a lower interest rate is called a discount point. For a range of mortgage interest rates, a lender will have a list of corresponding discount point costs to get a loan at that rate.
One discount point is one percent of the mortgage loan amount. On a $100,000 loan, a point is $1,000. For a $300,000 loan, one point is $3,000. Mortgage lenders will usually charge between zero and one discount point for a standard 30-year mortgage rate. To get a lower rate, a homebuyer will be charged discount points based on a schedule provided by the lender.
The rate savings by paying discount points is usually a quarter point—0.25 percent—for each discount point paid. If the quoted mortgage rate is 5 percent, paying one point would buy the rate down to 4.75 percent. Most lenders will charge four to six points to lower a mortgage rate by one full percent. This puts the rate savings per point in a range of 0.17 to 0.25 percent.
The reasons to pay discount points to buy down a mortgage rate are to save on the total interest paid and to have lower payments. For mortgage rates in the 4 to 6 percent range, each quarter-point in rate savings equals about $15 to $16 per month in lower payments on a 30-year, $100,000 mortgage. The lower the interest rate, the higher the monthly savings. A homebuyer who pays one point—$1,000—on a $100,000 mortgage to save $15 per month would earn the point back in 66 months.
Total Interest Savings
Paying points to for a lower rate makes the most sense for a homebuyer who plans to stay in the home for a long time. As an example, a $100,000 mortgage has the rate lowered from 5.5 percent to 5 percent with the payment of two discount points or $2,000. After 10 years, the homeowner has saved $5,385 in interest compared to the higher rate. Over 30 years, the savings would be more than $12,000.