Generally, you can use lender credits and points to make tradeoffs in how you pay for your mortgage and closing costs. Points are also called discount points. Points lower your interest rate, in exchange for paying more at closing. Lender credits lower your closing costs up front, in exchange for a higher interest rate.
Points and lender credits terms can sometimes be used to mean other things. Some lenders use the word “points” to refer to any upfront fee that is calculated as a percentage of your loan amount, whether or not you receive a lower interest rate. Some lenders may also offer lender credits that are unconnected to the interest rate you pay – for example, as a temporary offer, or to compensate for a problem.
The information below refers to points and lender credits that are connected to your interest rate. In general, if you pay fees, points, or discount points connected to the initial interest rate, you should expect to be given a lower rate. If you’re considering paying points or receiving lender credits, always ask lenders to clarify what the impact on your interest rate will be.
See below for an example of how points and lender credits can work.
Points
Points let you make a tradeoff between your upfront costs and your monthly payment. By paying points, you pay more up front, but you receive a lower interest rate and therefore pay less over time. Points can be a good choice if you plan to keep your loan for a long time.
One point equals one percent of the loan amount. For example, one point on a $100,000 loan is one percent of the loan amount, which equals $1,000. Points don’t have to be round numbers – you can pay 1.375 points ($1,375), 0.5 points ($500) or even 0.125 points ($125). The points are paid at closing and are added to your closing costs.
Paying points lowers your interest rate, compared to the interest rate you could get with a zero-point loan at the same lender. A loan with one point should have a lower interest rate than a loan with zero points, assuming both loans are offered by the same lender and are the same kind of loan. The same kind of loan with the same lender with two points should have an even lower interest rate than a loan with one point.
Points are listed on your Loan Estimate and on your Closing Disclosure on page 2, Section A. By law, points listed on your Loan Estimate and on your Closing Disclosure must be connected to a discounted interest rate.
The amount that your interest rate is reduced depends on the specific lender, the kind of loan, and the overall mortgage market. Sometimes you receive a relatively large reduction in your interest rate for each point paid. Other times, the reduction in interest rate for each point paid could be smaller. It depends on the specific lender, the kind of loan, and market conditions.
Lender credits
Lender credits work the same way as points, in reverse. You pay a higher interest rate and the lender gives you money to offset your closing costs. When you receive lender credits, you pay less up front, but you pay more over time because the interest rate is higher.
Lender credits are calculated the same way as points. They might be called “negative points” on a lender’s worksheet. For example, a lender credit of $1,000 on a $100,000 loan might be described as negative one point (because $1,000 is one percent of $100,000).
Lender credits appear as a negative number as part of the Lender Credits line item on page 2, Section J of your Loan Estimate or Closing Disclosure. The lender credits lower the amount you pay at closing.
In exchange for the lender credit, you pay a higher interest rate than what you would have received with the same lender, for the same kind of loan, without lender credits. The more lender credits you receive, the higher your rate will be.
Compare loan offers
When you compare loans from different lenders, they could have different pricing structures. Some lenders could be more or less expensive overall than other lenders, whether or not you receive lender credits or pay points. That’s why it pays to shop around for your mortgage.
When comparing offers from different lenders, ask for the same amount of points or credits from each lender.
Explore current interest rates or learn more about how to shop for a mortgage.
How points affect interest rates in different scenarios
The table below shows an example of the tradeoffs you can make with points and credits. In the example, you borrow $180,000 and qualify for a 30-year fixed-rate loan at an interest rate of 5.0% with zero points. In the first row, you choose to pay points to reduce your rate. In the bottom row, you choose to receive lender credits to reduce your closing costs. In the middle row, you do neither.
| Rate | Points | Your situation | You may choose | What that means |
|---|---|---|---|---|
4.875% | 0.375 | You plan to keep your mortgage for a long time. You can afford to pay more cash at closing. | Pay points now and get a lower interest rate. This will save you money over the long run. | You might agree to pay $675 more in closing costs, in exchange for a lower rate of 4.875%. |
5.00% | You are satisfied with the market rate without points in either direction. | Zero points. | With no adjustments in either direction, it is easier to understand what you’re paying and compare prices. | |
5.125% | -0.375 | You don’t want to pay a lot of cash up front and you can afford a larger mortgage payment. | Pay a higher interest rate and get a lender credit toward some or all of your closing costs. | You might agree to a higher rate of 5.125%, in exchange for $675 toward your closing costs. |
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Now, let's delve into the concepts presented in the article you provided, Last Reviewed: OCT 19, 2023.
Points and Lender Credits in Mortgage Financing
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Points (Discount Points):
- Definition: Points are upfront fees paid at closing to lower the interest rate on a mortgage, effectively reducing the overall cost of the loan over time.
- Calculation: One point equals one percent of the loan amount. For instance, one point on a $100,000 loan is $1,000.
- Tradeoff: Paying points increases upfront costs but leads to a lower interest rate and, subsequently, lower payments over the life of the loan.
- Flexibility: Points can be fractional (e.g., 0.375 points), and the amount paid is added to closing costs.
- Disclosure: Points must be explicitly connected to a discounted interest rate, as per legal requirements.
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Lender Credits:
- Definition: Lender credits involve accepting a higher interest rate in exchange for the lender contributing money to offset closing costs.
- Calculation: Lender credits are calculated similarly to points and may be referred to as "negative points" on a lender's worksheet.
- Appearance: Lender credits appear as a negative number on the Loan Estimate or Closing Disclosure, reducing the amount due at closing.
- Tradeoff: While lender credits decrease upfront costs, they result in a higher interest rate and, consequently, higher payments over the loan term.
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Comparison of Loan Offers:
- Importance: Loan offers from different lenders may have varying pricing structures, irrespective of points or credits. Comparison shopping is crucial.
- Advice: When comparing offers, ensure that you request the same amount of points or credits from each lender for a meaningful comparison.
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Impact on Interest Rates (Table Example):
- Scenario: The provided table illustrates how points and lender credits affect the interest rate in different situations, using a $180,000 loan as an example.
- Tradeoffs: Paying points can lead to a lower interest rate, saving money over the loan term, while lender credits reduce upfront costs but result in higher monthly payments.
In conclusion, the decision to pay points or receive lender credits involves a careful consideration of individual circ*mstances, financial goals, and the anticipated duration of homeownership. This comprehensive overview empowers potential homeowners to navigate the complex landscape of mortgage financing, making informed choices tailored to their specific needs.
