Buying Down Your VA Interest Rate: Guide to Discount Points
VA loans offer many benefits for qualifying borrowers, one of which is the ability to purchase discount points that can lower the costs over the life of your loan.
If you are prepared to think about long-term homeownership, you may want to consider buying points, also called discount points, before finalizing your home purchase with a VA loan.
What Are Discount Points on a VA Loan?
Discount points are an upfront payment designed to lower the VA interest rate for the life of your loan. By purchasing discount points on a VA loan, you are effectively “prepaying” the interest due on the loan in order to have a lower rate (and thus a lower monthly payment) overall. One point is equal to 1% of the loan, and you can purchase multiple points to lower your rate even further. If whole-point increments aren’t affordable, you can also purchase partial points to stay within your budget.
Maximum Discount Points on a VA Loan
With VA loans, only two discount points can be rolled into the loan. The rules are different for points used on a refinance instead of a new purchase. Additional details on refinance rules regarding discount points are discussed below.
The VA does not specifically limit the max discount points on a VA loan, but keep in mind that every point increases your upfront loan costs. While some of the cost can be rolled into the loan or offset by a seller concession, purchasing more than two discount points is likely to significantly increase the amount of upfront cash you’ll need at closing.
Calculating VA Loan Discount Points
With all of the above, you might be asking yourself: "How do I calculate points on a mortgage?" The answer is that running a break-even point calculation can be a good place to start when determining whether buying points makes sense in your situation. If your calculation analysis shows that your likelihood of breaking even is low, it may not make financial sense to purchase discount points for your loan.
To calculate your loan break-even point, compare your upfront costs of purchasing the points to the total monthly payment savings you’ll receive with your purchase. The simple formula is the total cost of any buying points divided by the total monthly savings. Assuming you have a $300,000 loan for 3.5% interest, your break-even analysis would look like this:
| Discount Points | Example Mortgage Rate | Extra Principal | Monthly Payment | Interest Over Life of Loan | Break Event Point |
|---|---|---|---|---|---|
| 0.0 | 3.5% | $0 | $898 | $123,337 | N/A |
| 0.5 | 3.375% | $1000 | $888 | $119,061 | 8 years and 4 months |
| 1 | 3.25% | $2000 | $879 | $114,510 | 8 years and 9 months |
| 1.5 | 3.125% | $300 | $869 | $110,066 | 8 years and 8 months |
| 2 | 3% | $4000 | $860 | $105,642 | 8 years and 8 months |
Whether you purchase 0.5 points or 2 points, your breakeven point is about 72 months, or 6 years. If the likelihood is high that you’ll need to relocate before your 6-year breakeven point, you may want to forego adding buying points to your loan.
Buying Points on VA Refinances
If you are applying for a VA refinance instead of an original VA loan for a new purchase, there are some additional guidelines that may apply to buying your VA loan points. Most notably, VA refinance loans typically have a break-even requirement—you must “break even,” or recoup all of your closing costs including any discount points paid—within a specified time frame.
VA IRRRL Points Restrictions
If you plan to use discount points on a VA Interest Rate Reduction Refinance Loan (IRRRL), you are limited to two points that can be rolled into the loan amount. Additionally, you must break even on your total fees, closing costs, discount points, and any other loan expenses in 36 months or less.
VA Cash-out Refinance Points Restrictions
If you plan to roll discount points into a VA Cash-out Refinance Loan, the total amount cannot exceed 90% of your home’s value. There is a 36-month break-even requirement on VA Cash-out Refinances as well.
Pros of Purchasing Discount Points
Purchasing discount points makes sense for buyers in some situations. When buying points, you may benefit from:
- A lower mortgage rate: Purchasing discount points is sometimes referred to as “buying down” your interest rate, since paying the upfront cost for points results in a lower interest rate overall.
- A lower monthly payment: With a lower interest rate, your monthly payment will typically be lower as well.
- Lower interest charges: Over the life of your loan, you’ll pay less in total interest charges vs. loan arrangements without any discount points.
- Easier qualification terms: When debt-to-income ratios are tight, getting a lower monthly payment through buying points may help give you the edge needed to qualify.
- Potential tax write-offs: You may be able to write off any points purchased on your taxes if they were used to increase your home equity.
Cons of Purchasing Discount Points
Before you decide to add discount points to your loan, you should consider the potential drawbacks:
- Higher total closing costs: Discount points will typically take money out of your pocket, unless you can get the seller to agree to cover the costs.
- Break-even requirements: If purchasing discount points prohibits you from meeting the 36-month break-even requirement, you may not qualify for a loan through the VA.
- Moving restrictions: Purchasing discount points is a long-term strategy and may hinder your ability to move quickly if your plans change unexpectedly.
- Potential losses: If the military forces you to relocate within the first few years after buying points on a VA loan, you may not be able to recoup the initial expense.
Are Discount Points Worth It?
A break-even calculation can help you start the process of determining whether buying points makes sense for your situation, but your final decision should be made only after a thorough assessment of your long-term housing goals. If you plan to stay in the home for several years—at least long enough to break even—discount points may be worthwhile. However, if there is a high probability of relocation in the near future or you cannot afford the upfront payment associated with the discount points you plan to purchase, it might not make financial sense to use this loan feature.
Every homeowner’s scenario is different and requires a careful analysis of your personal goals, constraints and future plans. Contact a VA lender to help you analyze your unique situation and determine whether discount points make sense for you.
