Legal Definitions - mortgage discount

A mortgage discount, often referred to as "points" or "discount points," is an up-front fee paid to a lender at the time of a real estate closing. This fee is typically paid by the borrower to reduce the interest rate on their mortgage loan, thereby lowering their monthly payments over the life of the loan. It can also be a charge to cover the lender's administrative costs associated with originating the loan. While usually paid by the buyer, in some situations, the seller might agree to pay these points as part of the sales agreement.

Here are a few examples to illustrate how a mortgage discount works:

• Example 1: Buyer Pays to Lower Interest Rate

  Sarah is purchasing her first home with a $300,000 mortgage. The lender offers her an interest rate of 6.5%, but also gives her the option to pay 1 "point" (which is 1% of the loan amount, or $3,000) at closing to reduce her interest rate to 6.25%. Sarah calculates that paying the $3,000 up front will save her a significant amount over the 30-year life of the loan through lower monthly payments. She chooses to pay the $3,000 mortgage discount to secure the lower rate.

  This example illustrates how a borrower pays a mortgage discount directly to the lender to "buy down" their interest rate, resulting in long-term savings on their monthly payments.

• Example 2: Seller Pays as a Concession

  Mark is selling his house in a competitive market and wants to make his property more attractive to potential buyers. A buyer, Emily, is interested but is concerned about the high up-front costs of closing. To sweeten the deal, Mark agrees to pay 2 "points" (2% of the loan amount) on Emily's $400,000 mortgage, totaling $8,000, as part of the sales contract. This $8,000 is a mortgage discount that Mark pays on Emily's behalf at closing, helping Emily secure a lower interest rate or simply reducing her cash outlay.

  This example demonstrates how a seller might pay a mortgage discount for the buyer as a negotiation tactic or incentive, effectively reducing the buyer's initial costs or helping them qualify for a better loan.

• Example 3: Strategic Decision Based on Loan Term

  David is taking out a $250,000 mortgage for a new property, but he plans to sell the house and move in five years. His lender offers him a 6.0% interest rate with no points, or a 5.75% interest rate if he pays 1.5 points ($3,750) as a mortgage discount. David calculates that while the lower rate would save him money over a 30-year term, the up-front cost of $3,750 would not be fully recouped in interest savings within his planned five-year ownership period. He decides against paying the mortgage discount, opting for the slightly higher interest rate with no up-front points.

  This example highlights that paying a mortgage discount is a strategic financial decision, where the borrower weighs the up-front cost against the long-term interest savings, especially considering how long they plan to keep the loan.