Discount Points To Buy Down Mortgage Rates
Is Paying Discount Points Necessary?
Paying down mortgage interest rates with discount points is most often not necessary. However, there are times when it is necessary due to loan level pricing adjustments (LLPA), also referred to as pricing adjustments. There are times when paying discount points is necessary due to pricing adjustments. With government and conventional loans, there is a maximum mortgage rate a lender can charge. However, for borrowers with lower credit scores, the maximum mortgage rate available may be 5.625%.
What Are Loan Level Pricing Adjustments Charged By Mortgage Lenders?
Pricing adjustments are pricing hits on mortgage rates due to the level of risk the lender takes. For example, a borrower with a 500 credit score may get charged 5.625% plus may need to pay 1.0% discount points whereas a borrower with a 680 credit score may get a 3.5% rate.
Paying Discount Points is also very common for the borrower who wants to buy down the mortgage rate. Higher credit score borrowers may opt to get the lowest rate possible by paying discount points. For example, a prime borrower with a 750 credit score may get quoted a 3.5% rate. However, this prime borrower may opt to pay 2% in discount points to get a 2.95% mortgage rate.
When Points Is Required Versus Optional
Understanding Paying Discount Points When Applying For Mortgage Loan is important for every home buyer and/or homeowner getting a mortgage loan. Understanding the mortgage and home buying process is very important for borrowers. Paying Discount Points can often be confusing.
Understanding How Discount Points Work
All borrowers should understand discount points. Paying discount points can save a borrower tens of thousands of dollars over the course of the term of the loan. However, if you are thinking of selling your home or refinancing in less than five years, you may not benefit from buying down your rates. Paying discount points cost thousands of dollars and you will need to know the breakeven point to recover the charges of buying down the rates.
Most Frequently Asked Questions On Paying Down Your Rate With Points
Here are the most frequently asked common questions by borrowers is the following:
- Should I Pay Discount Points to buy down the mortgage rate?
- When Should I Pay Points?
- What Are Origination Versus Discount Points?
- Why Do Borrowers Pay Points?
- How To Avoid Paying Needless Points
- Is Getting A Lower Rate Worth The Cost Of Points?
- How Do I Figure Out The Break-Even Point On The Costs And Fees Of Discount Points
Types Of Discount Points In Mortgage Lending
Every mortgage company has its own fees and costs. There are two types of points charged by lenders:
- Origination Points
- Discount Points
A lender may charge an origination cost often referred to as points. Origination points are fees that a lender will charge and has no bearing in lowering mortgage rates. It is part of lender fees and is normally extra lender compensation. Discount points are extra fees charged by the lender to buy down the rates and/or due to loan level pricing adjustments. It can be bought with seller’s concessions.
Is It Worth Paying Points On Purchase And/Or Refinance Transactions?
Every mortgage transaction is different. Borrowers should think about whether or not paying discount points benefits them. It benefits borrowers who are planning on not refinancing in the short term and/or not selling their home in the next two to five years. Homebuyers who are buying a starter home and plan on upgrading to a bigger home should not be buying the rates with points. Homeowners thinking of refinancing in the next two to five years should not be paying for discount points. Discount points benefit borrowers who are not planning on refinancing and/or selling their homes. It normally takes three to five years to recoup the costs of discount points
To wisely decide if paying points is for you, simply ask your lender to let you know exactly how much money per month it would save you to pay a discount point. Then, divide the amount of your point(s) by that monthly savings the point provides, and that number will represent how many months it will take to break even on the point cost. So, if you pay a discount point of $2,500 for a $250,000 mortgage loan and only are saving $45/mo.
The math will tell you that $2,500 / 45 = 55.5 months to break even (almost five years). Keeping this in mind, let us use another example to help you get a more clear understanding of how to debate whether to pay points or not. Unfortunately, with the rates at current record lows at the time of this writing, this is the harshest refinancing mistakes I have seen many of my new refinance clients suffer.
One recent example that I can recall is a VA loan I provided for a veteran who refinanced less than 2 years previously. Here is how that previous refinance was structured: The borrower paid 2.5% discount points. Has just closed on a refinance 16 months prior to the new loan. The loan amount was $400,000. The 2.5% in points paid at closing increased his loan amount by $10,000 (2.5% discount points).
The purpose of the loan was to refinance to a slightly lower rate and to pay off 5 credit cards (debt consolidation). Now, in this example above, the borrower was purely focused on the monthly payment and out-of-pocket cash at the close. The illusion was, the borrower did not feel the $10,000 come out of their pocket, however, they realized a loss of over $8,000 when we closed their new loan since they failed to recoup even $2,000 of the points paid at closing over the 16 months they owned the old loan.
Paying Points Which Is Not Necessary
As mentioned earlier, borrowers should not be paying discount points if they plan on not keeping the home loan for at least two to five years. Your loan officer will go over the break-even point to recoup the cost. Many times when there is a seller’s concession overage, loan officers will recommend their borrowers to buy down the rate. Kickbacks on seller’s concessions are not allowed and need to be used for closing costs.
Paying Discount Points To Lower Debt To Income Ratios
There are instances where borrowers with high debt-to-income ratios need to buy down the mortgage rate in order to meet the DTI requirements. In cases where the borrower exceeds the maximum DTI caps on the particular loan program, they may need to buy down the mortgage rate with points. Borrowers should also shop for rates and terms.
Points as Origination Fees and Costs to Borrower with no Benefit to Borrowers
There are mortgage companies that charge origination points while other lenders do not. Origination charges are lender profits. Not all lenders have the same mortgage rates. This holds true on FHA, VA, USDA, Conventional, and Non-QM Loans. Some charge origination points while others do not. Some lenders’ origination charges may be more than others.
Lenders Charging Points During Coronavirus Crisis
Lenders Charging Points during the coronavirus mortgage crisis due to illiquidity on the secondary market. The coronavirus pandemic has halted the US economy. This holds especially true for the mortgage industry. The press does not cover the horrific damage the 2020 economic meltdown has on the mortgage market. Mortgage rates are at an all-time historic low. However, lenders are increasing rates due to liquidity issues.
What this means is when lenders fund home loans, they need to resell these loans on the secondary market in the order they relieve their warehouse line of credit. The warehouse line of credit needs to be relieved in order for lenders to originate and fund more mortgages. However, the secondary market is not interested in buying mortgages (mortgage-backed securities or MBS). There is no market on mortgages under 640 credit scores.
Due to no secondary market on the mortgage under 640 FICO, most lenders started imposing lender overlays on credit scores raising them to 640 or higher. Many lenders have increased their credit score requirements to 680 FICO. Many borrowers have not heard of discount points.
Discount Points Charged By Lenders For LLPAs
Discount points are origination fees lenders can charge. Borrowers can pay discount points to buy the mortgage rate. However, lenders are charging points on mortgages during the coronavirus pandemic crisis due to liquidity issues. We will discuss and cover why Mortgage Lenders Charging Points During Coronavirus Crisis.
Lenders Charging Points Due To Loan Level Pricing Adjustments
Mortgage rates are still at record low rates. Mortgage rates for prime borrowers are 3.30% on a 30-year fixed-rate mortgage on conventional loans. Prime borrowers are mortgage borrowers with over 740 credit scores, 30% down payment, less than 40% DTI, automated underwriting system approval, and/or 70% LTV financing a single-family home.
When Do Lender Charge Borrowers LLPAs?
Anyone outside of the above parameters will get hit with pricing adjustments, also called Loan Level Pricing Adjustment (LLPA). However, LLPAs are very expensive. For example, a borrower with a 699 credit score may get an LLPA of 1.50% hit which will be 3.30% plus 1.5% LLPA which is 4.8%. Normally pricing adjustments are not this high. Due to liquidity issues in the mortgage market, all lenders are jacking up their loan level pricing adjustment. Most lenders are charging LLPAs plus discount points during the coronavirus mortgage crisis.
When Do Mortgage Lenders Use Points
Discount Points are origination fees. Lenders are very regulated and cannot exceed a certain mortgage rate cap Borrowers with low credit scores may get charged a certain rate plus discount points. One discount point is equivalent to 1.0% of the loan amount. Borrowers can also pay discount points to buy down the rate. However, due to the coronavirus meltdown and uncertainty in the secondary market, many lenders are charging a certain mortgage rate PLUS discount points.
For example, one investor is quoting a mortgage rate of 4.5% plus a 2% discount point on a 680 borrower when par rates are 3.3% today. Any borrower will under 680 credit scores most likely be charged discount points until the mortgage market stabilizes. The good news is that discount points can be paid with seller concessions by the home seller.
Lenders Charging Discount Points And Increasing Rates Due To Liquidity
Right now during this uncertain time lenders and servicers are facing many challenges. One of the challenges is many investors (hedge funds) at the top purchasing mortgage-backed securities and bonds have pulled out. With the pandemic going on and the unemployment rate hitting record highs they do not want the risk to purchase these loans.
Points Charged On Lower Credit Scores
Loans 500 -639 credit score borrowers right now are not worth anything to anyone. This is what is causing interest rates to be so high and the coupon to cost discount points. This is not an issue with particular lenders but rather an industry-wide problem. This will smooth out eventually but it is going to take some time. Most mortgage companies have raised credit score overlays. Lenders who had minimum credit score requirements of 580 on VA and FHA loans have increased them to 640 or higher plus discount points.
Lender Overlays By Individual Mortgage Companies
Other lenders have increased minimum credit score requirements to 680 FICO on all government loan programs (FHA, VA, USDA). Other lenders have Implemented debt-income ratio overlays where they capped maximum debt-to-income ratios to 45% DTI.
All non-QM lenders have suspended originating and funding non-QM loans until further notice. We expect most non-QM lenders will go out of business or suspend originating and funding non-QM mortgages. The whole mortgage industry is undergoing restructuring. All Jumbo Loans are in suspense until further notice. Capital Lending Network, Inc. will keep our viewers posted as developments change in the coming days and weeks.
Mortgage Lender With No Lender Overlays on Government and Conventional Loans
The great news is CLN Mortgage is aggressively originating and funding government and conventional loans with no lender overlays. We can still originate and fund VA and FHA loans with under 620 credit scores down to 500 FICO. For more information on qualifying for a mortgage with a lender with no overlays, please contact us at Capital Lending Network at 888-900-1020 or email us at contact@capitallendingnetwork.com. Text us for a faster response. The team at CLN Mortgage is available 7 days a week, evenings, weekends, and holidays.
January 3, 2022 - 8 min read