Points prepay interest for a smaller payment later; whether they pay depends on how long the loan really lasts.
Mortgage points are worth it if you keep the loan past the break-even, which is the cost of the points divided by the monthly saving, adjusted for what the cash could have earned and for the faster pay-down. On an illustrative $400,000 30-year loan, one point of $4,000 that cuts the rate from 6.75 to 6.50 per cent saves $66.12 a month: a simple break-even of 60.5 months and a true break-even of 54 months, about four and a half years. Sell or refinance before then and the points lose money.
Worked in full in Personal Finance for Beginners by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
Lenders quote points as a way to "buy down" the rate, and the lower rate looks permanent. What you are actually doing is prepaying interest up front in exchange for a smaller payment later, so the only question is whether "later" lasts long enough. That depends on how long you keep the loan, which is easy to overestimate.
| Input | Value |
|---|---|
| Loan amount | $400,000 |
| Term | 30 years, fixed |
| Rate with no points | 6.75% |
| Rate with 1 point / 2 points | 6.50% / 6.25% |
| Cost of one point | 1% of the loan, $4,000 |
| What the cash would earn in savings instead | 4.0% a year |
One point is 1 per cent of the loan amount. A cut of about a quarter of a percentage point per point is a common rule of thumb, used here, but it is not fixed: the trade varies from lender to lender and day to day. Always ask for the rate with zero points and with each point, then run the numbers below on the actual quote.
No points: =PMT(6.75%/12, 360, -400000) = $2,594.39
One point: =PMT(6.5%/12, 360, -400000) = $2,528.27
Monthly saving = $66.12
$4,000 ÷ $66.12 = 60.5 months, about 5.0 years
Two things the simple version leaves out pull in opposite directions:
Net gain at month m = savings grown at 4% + balance difference − points cost grown at 4%
At 60 months: $4,384 + $1,059 − $4,884 = +$559. The first month the net gain turns positive is month 54.
Here the faster pay-down outweighs the lost interest on the cash, so the true break-even comes earlier than the simple one. With a higher return on savings, or a smaller rate cut per point, it moves the other way.
| Loan kept for | 1 point ($4,000) | 2 points ($8,000) |
|---|---|---|
| 3 years | −$1,354 | −$2,711 |
| 5 years | $559 | $1,106 |
| 7 years | $2,592 | $5,161 |
| 10 years | $5,872 | $11,693 |
| 15 years | $11,935 | $23,745 |
| 30 years | $32,637 | $64,776 |
Two points cut the payment by $131.52 to $2,462.87 and break even at the same 54 months, because each point here buys the same quarter-point cut. The second point costs $4,000 and saves another $65.40 a month: a break-even of 61.2 months on its own. Points double the bet; they do not change the odds.
The real test is the refinance. Points pay off only if the loan survives. If rates fall a point in year three and you refinance, the points have not yet paid for themselves: net of the savings and the extra equity so far, the table shows −$1,354 at three years. Buying points is, in effect, a bet that rates will not fall enough to make refinancing worthwhile before month 54.
The same $4,000 could go into the down payment instead, cutting the loan to $396,000 at 6.75 per cent. The payment falls by only $25.94 to $2,568.45, but there is no break-even risk: the money is equity from day one.
| Loan kept for | $4,000 of points | $4,000 more down | Points ahead by |
|---|---|---|---|
| 3 years | −$1,354 | $344 | −$1,698 |
| 5 years | $559 | $591 | −$32 |
| 7 years | $2,592 | $852 | $1,741 |
| 10 years | $5,872 | $1,269 | $4,603 |
The crossover is month 61, just after five years. Expect to move or refinance within five years and the down payment wins; expect to stay ten and the points win by $4,603. If the extra down payment also gets the loan under a pricing tier or removes mortgage insurance, it wins by more.
Tax is left out. In the United States, points paid on a loan to buy a main home can often be deducted in the year paid if IRS conditions are met and you itemise; points on a refinance are generally deducted over the life of the loan. Where a deduction applies it shortens the break-even, so check the current IRS rules or ask a tax adviser before counting on it.
Divide the points cost by the monthly saving, then ask honestly whether you will keep this loan longer than that. Here one point breaks even at 54 months and is worth $5,872 if the loan lasts ten years, but loses $1,354 if it is refinanced after three. The payment formula behind every figure is in how a loan's monthly payment is calculated, another way to cut mortgage interest is in what biweekly payments save, and the free workbook on debt is on the Personal Finance for Beginners companion page.
Divide the cost of the points by the monthly payment saving. One point of $4,000 that cuts a $400,000 loan from 6.75 to 6.50 per cent saves $66.12 a month, so the simple break-even is 60.5 months. Adding the faster principal pay-down and a 4 per cent return the cash could have earned brings the true break-even to 54 months.
It varies by lender and market; this example uses a quarter of a percentage point, from 6.75 to 6.50 per cent. To break even within five years on a $400,000 30-year loan, a point costing $4,000 needs to cut the rate by at least 0.224 percentage points. Ask for quotes at zero, one and two points and compare them.
It depends on how long you keep the loan. The same $4,000 as extra down payment cuts the payment by only $25.94 but carries no break-even risk. On this example the down payment comes out ahead if the loan is repaid before month 61; after ten years the points are ahead by $4,603.
This article is one calculation from Personal Finance for Beginners. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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