Why "No Points" 30-Year Fixed Loans Usually Don't Make Sense
Written by: Carey Pott
I hear it all the time, and you probably do too. On the radio,
TV, in the newspaper or online - "Call now to get a 30-year
fixed loan at x% with no points or fees!". I'd like to explain
to you why this almost never makes sense.
First, we need to make an assumption - if you're getting a
30-year fixed loan, you're planning on keeping the loan for
several years. This may seem simple, but so many people get
30-year fixed loans because it's what they've always gotten or
because everything else is perceived as risky. If you're not
going to keep your loan for at least 7-10 years, it makes no
sense to get a 30-year fixed loan. There are products available
called hybrid ARMs (adjustable rate mortgages), which allow you
to fix your rate for a set period of years (typically 3, 5, or 7
years). These loans usually have lower rates than 30-year fixed
loans. If you're not going to keep the loan for over 5 or 7
years, you shouldn't pay more to keep it fixed longer than that.
So, you've decided that unlike the majority of people who
refinance or sell their home every 3-5 years, you're going to
stay in your home and do not plan to refinance for at least 7-10
years. In this case, it may make sense for you to get a 30-year
fixed loan. However, it still doesn't make sense for you to get
a 30-year fixed with no points. In order for you to understand
why, I have to explain how loans and interest rates work.
When you go to a lender to get a 30-year fixed loan, they will
tell you what interest rate you qualify for. If your loan
officer is good, they will explain to you that you can buy down
the interest rate by paying 1 or more "points" through the loan
(a "point" is simply a lending term that means 1% of the loan
amount, so if you have a $300,000 loan then 1 point is $3,000).
If your loan officer is REALLY good, he'll explain why it
probably doesn't make sense to get a 30-year fixed loan without
paying any points.
In order for you to see what I'm talking about, let's assume
you've got a $300,000 loan amount and you can get a rate of
6.25%. Your monthly payment would be $1,847. However, if you
agree to pay one point ($3,000) through the loan your rate will
be 6%, which would translate into a monthly payment of $1,798.
At this point, it's useful to do a "break-even" analysis.
Take the amount you pay in points ($3,000) and divide that by
the monthly savings ($1,847 - $1,798 = $49), which gives you 61.
This is the number of months in which your monthly savings ($49)
pay for your point ($3,000). In this case, if you're planning on
keeping the loan for 7-10 years at least then it makes sense to
pay the point for the lower rate since you'll be saving money.
In fact you will save $2,900 after 10 years, $8,800 after 20
years, and almost $15,000 over the life of the loan!
Generally speaking, by paying at least 1 point when you get a
30-year fixed loan you'll find a break-even point of 4-5 years.
Since we've already made the case that you shouldn't get a
30-year fixed loan if you're planning on keeping your mortgage
for less than 7-10 years, and the break-even point is generally
4-5 years, it usually doesn't make sense to get a 30-year fixed
loan with no points.
If you're in a situation where you're considering getting a
30-year fixed loan, I would suggest you do this analysis
yourself. Ask your trusted loan officer for a rate quote at 0
points, 1 points, and 2 points, along with what the payment
would look like at each rate. Then divide the amount you're
paying in points by the monthly savings to find your break-even
point. If that break-even point is at least a year less than the
amount of time you're planning on keeping the loan, then pay the
money and save in the long run!
About the author:
Carey Pott is an experienced mortgage broker and owner of
January Financial in Foothill Ranch, CA. He has helped hundreds
of clients find the best financing for their home purchase or
refinance needs. You can find more information on mortgage
financing at www.januaryfinancial.com.
Carey is also a frequent contributor to many websites with
mortgage articles, including Home Experts Online,
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