Definition
Discount points are prepaid interest you pay at closing to reduce your interest rate. Each point typically lowers the rate 0.25%. It's only worthwhile if you keep the loan through the break-even point (when savings exceed costs).
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Find my pathAbout this term
Discount points are a form of prepaid interest. Borrowers can deduct the cost of points as mortgage interest on their tax return if the points are used to buy the primary residence and meet specific IRS requirements. The payoff period (months needed for savings to offset the upfront cost) is critical in the decision.
Pro Tip
Buying discount points makes sense if you plan to keep the loan through the break-even point and benefit from lower payments.
Example
A borrower pays $6,000 (2 points) to reduce their rate from 6.5% to 6.0%, saving $150 monthly. They break even in 40 months ($6,000 ÷ $150).
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