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Should I pay points?
Does a zero-point /zero-fee loan really exist?
The best way to decide whether you should pay points or not is to perform a break-even analysis. This is done as follows:
1. Calculate the cost of the point. Example: 2 points on a $100,000 loan is $2,000
2. Calculate the monthly savings on the loan as a result of obtaining a lower interest rate. Example; $50.00 per month.
3. Divide the cost of the points by the monthly savings to come up with the number of months to break even. In the above example, this number is 40 months. If you plan to keep the house for longer than the break-even number of months, then it makes sense to pay points; otherwise it does not.
4. The above calculation dose not take into account the tax advantage of points. When you are buying a house the points you pay are tax-deductible, so you realize some savings immediately. On the other hand, when you get a lower payment, your tax deduction reduces! This makes it a little difficult to calculate the break-even time taking taxes into account. In the case of a purchase, taxes definitely reduce the break-even time. However in the case of a finance, the points are NOT tax-deductible, but have to be amortized over the life of the loan. This results in few tax benefits or none at all, so there is little or no effect on the time to break even.
If none of the above makes sense, use this simple rule of thumb: If you plan to stay in the house for more than 5 years, pay 1 or 2 points. If you plan to stay in the house for between 3 and 5 years, it does not make a significant difference whether you pay points or not!
Zero-Point/Zero-Fee Loans
Whatever happened to the conventional wisdom of waiting for the rated to drop 2% before refinancing?
You have a 30-year fixed loan at 8.5%. A loan officer calls you up and says they can refinance you to the rate of 8.0% with no points and no fees whatsoever.
What a dream come true! No appraisal fees, no title fees and not even junk fees! Is this a deal too good to pass up? How can a bank and broker do this? Doesn?t someone have to pay? Whose money is being used to pay these closing cost?
No-this is not a scam. Thousand of homeowners have refinanced using a zero-point/zero-fee loan. Some refinanced multiple times, riding rates all the way down the curve in 1992, 1993, and, more recently, in 1996. Some homeowner used zero-point/zero-fee adjustable loans to refinance and get a new teaser rate every year.
The way this works is based on rebate pricing, sometimes also known as yield-spread pricing, and sometimes know as a service-release premium. The basic idea is that you pay a higher rate in exchange for cash up front, which is then used to pay the closing cost. You will pay a higher monthly payment-so the money is really coming from future payments that you will make.
You can also think of this as negative points! For example, a 30-years fixed loan may be available at a retail price of:
8.00% with 2 points or
8.25% with 1 point or
8.50% with 0 points or
8.75% with -1 point or
9.00% with -2 points
On a $200,000 loan, the loan officer can offer you 8.75% with a cost of -1 point, which is a $2000 credit towards your closing cost. A mortgage broker can use rebate to pay for your closing cost and keep the balance of the rebate as profit.
What are the benefits of a zero-point/zero-fee loan?
The main benefit is that you have no out -of-pocket cost. As a result, if the rate drops in the future, you could refinance again even for a small drop in rates. So if you refinanced on the zero-point/zero-fee loan to get a rate of 8.75% and if the rate drop 1/2%, you can refinance again to 8.25%. On the other hand, if you refinanced by paying 1 point and got a rate of 8.25%, it may not make sense to refinance again. Now, if the rate drop another 1/2%, a zero-point/zero-fee loan can drop your rate to 7.75%, whereas if you paid points, you may have to do a break-even analysis to decide if refinance will save you money.
The zero-point /zero-fee loan eliminates the need to do a break-even analysis since there is no up-front expense that need to be recovered. It also is a great way to take advantage of falling rates.
Some consumers have used zero-point/zero-fee loan on adjustable loans refinance their adjustable every year and pay a very low teaser rate.
What are the disadvantages of a zero-point/zero-fee loan?
The main disadvantage is that you are paying a higher rate than you would be paying if you had paid points and closing costs. If you keep the loan for long enough, you will pay more- since you have higher mortgage payments. In the scenario where you plan to stay in the house for more than five years, and if rates never drop for you to refinance, you could end up paying more money. If, on the other hand, you plan to stay at a property for just 2-3 years, there really is no disadvantage of a zero-point/zero-fee loan.
Whose money is it?
Since you are being paid "cash" up-front in exchange for a higher rate, it really is your own money that will be paid in the future through higher payments. Investors who fund these loans hope that you will keep the loan for long enough to recoup their up-front investments. If you refinance the loan early, both the service and the investor could lose money.
To summarize, zero-point/zero-fee loans in many cases are good deals. Make sure, however, that the lender pays for your closing cost from rebate points and NOT by increasing your loan amount. So if your old loan amount was $150,000, your new loan amount should also be $150,000. You may have come up with some money at you closing for recurring cost (taxes, insurance, and interest), but you would have to pay for these weather you refinance or not.
Zero-points/zero-fee loan are especially attractive when rate are declining or when you plan to sell your house in less than 2-3 years.
Zero-point/zero-fee loans may not be around forever. Lenders have discussed adding a pre-payment penalty to such loans, however few lenders have taken steps to implement such a measure.
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"As a first time home buyer I was very unclear on what was involved in applying for a mortgage and what points and closing costs really were. Grand Oak Mortgage Company took the time to explain and educate me and my wife on the entire mortgage process" - Mr. & Mrs. Zlotnik
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"Grand Oak Mortgage was great to deal with. Everytime, I spoke with them they were very upbeat and happy. It was a real pleasure dealing with such a great staff. They were very patient with me even when they had to explain things to me twice" - Mr. Passalacqua
"My Loan Officer was very helpful and all for us, she gave us insight into the ins and outs of the business" - Mr. & Mrs. Gonzalez
"Grand Oak Mortgage was very helpful, we want to thank them for getting us in our house. Very good company, who cares about their clients" - Mr. Zak
"With all the different loans programs available I didn't know the best program for me. With the help of my Grand Oak Mortgage Company Loan Officer I ended up with a loan program that saved me nearly $100/month on my house payment" - Mr. & Mrs. Wink
"The staff went up and above any of our expectations. Explaining everything step by step, very professional and helpful" - Dale Gohn & Kristie Tickle
"As a first time home buyer I was very unclear on what was involved in applying for a mortgage and what points and closing costs really were. Grand Oak Mortgage Company took the time to explain and educate me and my wife on the entire mortgage process" - Mr. & Mrs. Zlotnik
"Thank You Grand Oak Mortgage, my loan experience was all that you said it would be, fast and hassle-free" - Mr. & Mrs. Babcock
"Grand Oak Mortgage was great to deal with. Everytime, I spoke with them they were very upbeat and happy. It was a real pleasure dealing with such a great staff. They were very patient with me even when they had to explain things to me twice" - Mr. Passalacqua
"My Loan Officer was very helpful and all for us, she gave us insight into the ins and outs of the business" - Mr. & Mrs. Gonzalez
"Grand Oak Mortgage was very helpful, we want to thank them for getting us in our house. Very good company, who cares about their clients" - Mr. Zak
"With all the different loans programs available I didn't know the best program for me. With the help of my Grand Oak Mortgage Company Loan Officer I ended up with a loan program that saved me nearly $100/month on my house payment" - Mr. & Mrs. Wink
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