Should I Pay Points for a Better Rate

Question

We are about to buy or first investment property. I can get a mortgage rate of either 4.375% with 0 points, or 4.125% with 1 point. My calculations show me a break even time of about 5 years. We have plans to keep the property for longer than this assuming everything goes reasonably according to plan.

So, should I go for the lower rate?

Bill Gulley · Answer

Two reasons to buy down, 1. to qualify and 2. if you intend to hold longer than 5-7 years. Compare loans based on the APR, not the note rate.

Points are prepaid interest, finance interest and you pay interest on interest!

Reduce interest by making additional payments to principal, consider taxes and long term goal, having equity is good, but difficult to use and it costs to take dollars back out of the walls.

When you're down the road, refinancing starts you all over again as to principal reductions from the required payment.  :)

Jeff S. · Answer

I have bought rates down only to have rates drop and refi before the pay-down pays off. I even advised people to buy down rates when I was in the business. Big mistake.

My last refi was a no cost loan at 3.99 15 yr. owner occ.

We used to laugh at the bank because you could finance the points and end up with a lower payment with nothing more out of pocket. They got the last laugh.

Shaun Weekes · Answer

@Scott Weaner

It depends on what your loan amount is. For example if the loan amount is 200k and you go from 4.375% to 4.125% that is a savings of $29.27 monthly. 1 point will cost you 2k and at a savings of $29.27 per month it will take you a little over 68 months to recoup those monies. In my opinion in this scenario it's a waste of 2k right now.

In addition you're probably going to refinance in the next 3 - 5 years anyway. Things happen, death, divorce, decease etc. I truly feel and investment home is exactly that, an investment. So if you have the opportunity down the road to borrow more money at 4.5% to 5.5% or whatever rate and you're making 10% off that money then it's UOPM all day ( use other people’s money to make money )

In conclusion I don't know what your loan amount so I don't have the exact figures but most of the time I like to put my clients at par or even pay for their closing costs with a higher rate.

Take care and have a great day.

Zach Adams · Answer

Great points.  Thank you

Zach Adams · Answer

Thanks Kelly.  I agree about going with a higher interest rate to keep cash on hand for futures and security.  Cash is king right now and I want to look down the road at the next property too.  After talking with 3 different lenders, 2 are giving me 4.3-4.5% with no points and 1 4.18% with 3 points ($5,500).  Still waiting to hear back from a broker.  Do you think we'll see <4% of NOO properties down the road?

Zach

Andreas W. · Answer

I would preserve the capital and go with a slightly higher rate. The lender will ask for capital reserves and most want to see 6 months piti (principal, interest, tax, and insurance) for all loans. You can also use the unspent capital for another deal. The whole idea is to invest a reasonably small amount of money and get a high return for it. That counts as well in re. In addition, you might find out that you benefit better from your re investment if you sell it ways before the 30 years or inflation shoots up and with it rents and mortgage rates and suddenly the 0.25% difference in interest rate is marginal. Just my opinion.

Jeremiah B. · Answer

@Zach Adams

As a general statement, investment property purchases are more expensive than owner occupant purchases.  But, it's important to remember that the cost to you may come through as points, or it may come through as a higher rate.  Although this may not be intuitive or even transparent, the two are ultimately interchangeable - meaning you can probably opt to pay zero points and pay a higher rate, or lots of points and a lower rate.

With that said, 3 points does feel high.  I would suggest speaking with a couple different lenders and getting good faith estimates (GFEs) from multiple lenders before you lock anything in.

Happy hunting!

Kelly N. · Answer

We were looking at the same issue with our next purchase- I was given a rate of 4.875% with no points, and could get up to 3.99% by purchasing 4.28 points, $7700 extra due at closing in my case.  It would take 5-7 years to recover that cost depending on how you calculate it, and would save us $17k over the 30 year life of the loan.  Sounds like a good, guaranteed return on investment, right?  Buying the points will raise our cap a little and lower our cash on cash return slightly.

However, we plan to purchase another house pretty soon, so I would rather have that extra $7700 in my bank account than lower my payment/increase my cash flow by $94/ month at this time.

Another thing to consider is whether you would refinance in the future to secure a lower percentage, and what the refi cost would be.  In my opinion, interest rates are pretty low right now, so I doubt they would get low enough to make a refi make sense.  Knowing that, we are committing to the 4.875% for the life of the loan or for the time we own the property, and at that rate the numbers work, and because we would like to put as little down as possible at this time.

Kelly

Should I Pay Points for a Better Rate

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