Lenders, both large and small offer a range of real estate investor loan programs to purchase, remodel or build a home.
Buyers can choose the term of the loan as well as between a fixed rate and an adjustable rate loan.
Once the real estate investor loan is selected, the buyers then can decide whether or not to pay discount points to lower the interest rate. Yet when evaluating whether or not paying points is beneficial, the answer is almost always “No!”
Discount points, or simply “points” are represented as a percentage of your loan amount.
One point on a $100,000 loan is $1,000 and is a form of prepaid interest to the lender. Typically, one point will reduce an interest rate by one-quarter of one percent.
If a bank offers a 30 year fixed rate loan at 3.75 percent with no points, they will also offer a loan at 3.50 percent with one point.
Or even a rate in between at 3.625 percent with one-half of a point. So how do you decide if a point is a good investment? After all, when buying a flip, all expenses reduce your bottom line.
To determine if a point is right for your transaction, compare the difference in monthly payment between a rate with one point and a rate with no points.
For instance, using a $100,000 loan with a 30 year fixed rate of 3.75 percent, the principal and interest payment is $463.72 per month.
By paying one point, or $1,000, the interest rate is lowered to 3.50 percent resulting in a monthly payment of $449.04, or $14.68 lower.
Now divide the difference of $14.68 into the $1,000 in point paid, and the answer is 68.12, rounded down to 68. This is the number of months it will take to recover the $1,000 invested for the lower rate. This does not even consider the time value of money of what you could or would do with that $ 1000.00.
That’s nearly seven years. If you plan on keeping your investment property for seven years it might barely be worth it. Otherwise, keep the $1,000 and put it toward a new kitchen.
Paying points when looking for real estate investor loans might be an attractive option at first glance. But once you do the math, it doesn’t make sense for short term holds.
Talk soon,