When a borrower obtains a mortgage, points are commonly included in the closing costs. Mortgage points come in two different types – origination and discount.
Many lenders charge origination points when a borrower gets a mortgage. The purpose of the points is to cover some of the costs to provide the loan to the borrower. Depending on the lender, borrowers might not be responsible to pay any origination points or they might need to pay several points. Lenders determine how many origination points to charge based upon the type of mortgage involved.
A single origination point is equal to one percent of the borrowed amount. Therefore, if the mortgage is for $200,000, the borrower owes $2,000 for each origination point.
Lenders charge discount points when a borrower wishes to obtain a lower interest rate on their mortgage. The number of points depends upon how much lower the borrower wants to drop the interest rate being charged on the loan.
One discount point is equal to one percent of the borrowed amount. For example, if the loan is for $200,000 and the bank is charging three points, the borrower owes $6,000 as shown by this formula: (1% x $200,000) x 3 = $6,000.
The lender determines the exact drop in interest rates provided through discount points, while the buyer chooses whether or not to pay discount points to get the lower rate. The discounted interest rate stays in place for the entire term of the mortgage.
Most borrowers end up paying origination points on their mortgages. Only some of them opt to pay discount points to obtain a lower interest rate on the money they borrow.
If you are borrowing the money to purchase your home, make sure to ask your lender about mortgage points and include them in the overall cost of the home purchase.