Four months into being newlyweds, my husband and I bought our first home in the hot summer seller’s market. It was smooth sailing – until it wasn’t.
We trusted recommendations from family and friends for our lender and real estate agent. But we still asked dozens of questions: How does the homebuying process work? How much are we approved for? How much is the monthly payment?
Finally: How much money will we need for closing? Based on the home’s price and other factors, we budgeted close to $18,000 for closing. Unfortunately, we wouldn’t be guaranteed final numbers until days before it was time to sign the documents.
Less than a week before the big day, we noticed that we would need to bring nearly $32,000 to closing — twice what we expected. That included $13,919 in discount points, aside from the other $18,000 in closing costs.
Along the way, our lender mentioned discounts. But after reviewing documents with our realtor, we realized “discount” meant that we were buying a lower interest rate – and had to pay more money at closing.
Here’s what happened and why you should always read the fine print:
Paying for Points in Today’s Housing Market
If you’ve never heard of paying for points, here’s how it works: Generally, you pay a “point” – 1% of the total cost of the mortgage – upfront in exchange for a reduction in the interest rate, usually about a quarter of a percentage point.
“You prepay interest upfront. And in return, you get a lower interest rate,” says Shant Banonsian, executive vice president at Guaranteed Rate, an online mortgage lender. “So, for money upfront, you get a lower monthly payment going forward. It’s supposed to be a give and take.”
You can lower your interest rate with points in any housing market, but with mortgage rates skyrocketing, it’s becoming more common.
“In the market right now, we’re seeing a lot of lenders just throwing on high points and not discussing it,” says Jennifer Beeston, a mortgage lender and senior vice president at Guaranteed Rate. “They’re trying to keep the rates where it’s palatable to the consumer because rates have gone up so high. It doesn’t even click to go to the next step of ‘Does it mathematically make sense?’”
We were stunned. For us, paying nearly $14,000 more for a discount on the interest rate didn’t make sense.
As soon as the economy improves, we plan to refinance. So we paid $7,000 for two discount points to have a comfortable monthly payment until rates drop and we can get a lower one by refinancing.
“The lower the rate, the more the points,” says Lauren Maxwell, the executive vice president for CrossCountry Mortgage, LLC in Naples, Florida. Paying for a lower rate may be worthwhile if you know you don’t plan to move or refinance soon. But if you do, you can still add a discount point or two to have a better monthly payment, she adds.
Before you pay for a lower interest rate, make sure it’s the right financial decision now and down the road. That lower rate can mean a better monthly payment, but it could take years to make up the difference between your monthly savings and how much you’re paying in interest upfront.
Review Your Rate Lock Disclosure
Mortgage rates went up aggressively over the summer. To avoid floating and hoping rates would drop, we locked in our mortgage rate for 30 days. Our offer was accepted and we budgeted our future monthly payment to make sure we were comfortable with all of the numbers.
We took a glance at the rate lock disclosure and all of the numbers seemed right, except for the closing costs. They were higher than the $18,000 we expected, but because closing costs weren’t final, we trusted that the amount would be lower.
Unfortunately, the numbers ended up being pretty accurate. The rate disclosure included the nearly $14,000 in points. We overlooked it. When interviewed for this story, Beeston reviewed the loan documents and pointed out the amount in the same rate lock disclosures that we signed.
“They’re saying we have locked you and that there’s a discount charge of $13,919,” says Beeston. The amount meant that we were paying for three and a half discount points to have our interest rate lowered by roughly 0.875%. “For a lender, this is clear as day. For a consumer, most people have no idea. Would you assume discount points or would you assume you’re getting a discount?”
She was right. We had no idea what discount points were and our mortgage loan originator never explained beyond her “giving us discounts.”
Rate lock disclosures don’t look the same across lenders and discount points can be easy to miss, Beeston says. Some lenders note that the points are a charge that you’re responsible for, while others bury the cost deep in the document.
“The key that consumers need to know is that if it says ‘discount,’ it’s most likely discount points, which is a huge charge to you,” Beeston says.
Always Compare Your Loan Estimate
As much as experts recommend it, we didn’t compare lenders after getting our first loan estimate and thought we were getting the best rate possible.
To help avoid a homebuying nightmare like mine, here are some questions Banonsian says you should ask your lender:
- What is the interest rate?
- Does the rate include points?
- If so, how many and how much does each point cost?
- Is it a fixed or adjustable rate mortgage?
- What are the loan origination fees?
Before your first home offer is accepted or after you get your first loan estimate, shop around and compare lenders to get the best loan and interest rate upfront. Get your loan offers on standardized loan estimate forms and understand how to read them. That way you’re comparing the same documents.
When buying a home, you’ll have multiple options for loan types, terms, and rates. But make sure your lender walks you through all of your options and explains any costs, says Beeston.
Keep in mind that different factors may require lenders to add points, such as the down payment, property type, or credit score. And sometimes, buying down the interest rate is the only way someone can qualify for the loan.
“If you were able to find the same rate or better without any points, that means that ultimately, you weren’t getting the best possible deal,” he says. But if points are being added, it needs to be talked about upfront.
Always get a standard loan estimate from the lenders you’re considering. That way you can compare them to each other more easily.
The Bottom Line
Andrew and I signed a lot of documents in the span of our 30-day contract period. And to be honest, we didn’t ask enough questions. We felt like we did enough of our homework and had a firm grip on the process. We understood what it took to get approved, our loan type, and even what a rate lock is. But we didn’t read the fine print and ask questions.
“Always review every single document,” says Beeston. “It doesn’t matter if it’s a family friend.”
If you’re unsure of why a fee was added or what each disclosure says, always ask your lender. Even if it means going line by line. It’s the biggest purchase of your life, so don’t go into it blindly.
Given how quickly the housing market and mortgage rates are changing, Beeston recommends speaking with experts and educating yourself as much as possible to avoid surprises on closing day or down the road.
“Learn about the process so that you’re not 100% having to rely on buying in the dark,” says Beeston. “It’s too big of a purchase.”