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How do points work in a loan?

Points are fees that a borrower may be required to pay when taking out a loan. Points are typically expressed as a percentage of the loan amount and are paid at the time of closing. One point is equal to 1% of the loan amount. For example, if you are taking out a loan for $100,000 and are required to pay two points, you would need to pay $2,000 in points at closing.

There are two main types of points: discount points and origination points. Discount points are fees that a borrower may choose to pay in order to lower the interest rate on their loan. Each discount point that is paid typically results in a corresponding reduction in the interest rate. For example, if you are taking out a loan with an interest rate of 4% and are willing to pay one discount point, you may be able to negotiate a reduced interest rate of 3.75%.

Origination points, on the other hand, are fees that are charged by the lender to cover the cost of originating the loan. These fees are typically non-negotiable and are paid by the borrower as a cost of borrowing money.

Points may be a good option for borrowers who are planning to stay in their home for a long period of time and want to take advantage of a lower interest rate. By paying points upfront, borrowers can potentially save money on their monthly mortgage payments over the long term. However, points may not be a good option for borrowers who are planning to sell their home or refinance their mortgage in the near future, as they may not be able to recoup the cost of the points.

It's important to carefully consider the pros and cons of paying points before deciding whether to do so. Borrowers should carefully review the terms of their loan and the costs associated with points in order to determine whether paying points makes financial sense.

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