Link: Should I pay points? Does a zero-point/zero-fee loan really exist?.
The best way to decide whether you should pay points or not is to perform a break-even analysis. This is done as follows:
1. Calculate the cost of the points. Example: 2 points on a $100,000 loan is $2,000.
2. Calculate the savings in monthly payments on the loan as a result of obtaining a lower interest rate. Example: Assume $50 per month.
3. Divide the cost of the points by the monthly savings to come up with the number of months to break even. In the above example, this number is 40 months. If you plan to keep the house for longer than the break-even number of months, then it makes sense to pay points; otherwise it does not.
Note: The above calculation does not take into account the tax advantages of points. When you are buying a house the points you pay are tax-deductible, so you realize some savings immediately. On the other hand, when you get a lower payment, your tax deduction reduces! This makes it a little difficult to calculate the break-even time taking taxes into account. In the case of a purchase, taxes definitely reduce the break-even time. However, in the case of a refinance, the points are NOT tax-deductible, but have to be amortized over the life of the loan. This results in few tax benefits or none at all, so there is little or no effect on the time to break even.
If none of the above makes sense, use this simple rule of thumb: If you plan to stay in the house for less than 3 years, don't pay points. If you plan to stay in the house for more than 5 years, pay 1 to 2 points. If you plan to stay in the house for between 3 and 5 years, it doesn't make a significant difference whether you pay points or not!
