Understanding VA Loan Points
A VA loan is a mortgage guaranteed by the U.S. Department of Veterans Affairs (VA). Borrowers can purchase VA loan points at closing to lower the interest rate on their VA loan, but it’s important to do the math to ensure the payoff is worth it. Generally speaking, you’ll want to remain in the home for several years in order to break even when purchasing VA loan points.
What are VA loan points?
VA loan discount points are points purchased to reduce the loan’s interest rate. One discount point, which usually costs 1% of the loan amount, will typically reduce the interest rate by 0.25 percentage points. The more points purchased, the lower the final VA loan interest rate will be. Saving interest over the life of the loan is the key reason why borrowers consider paying for discount points.
VA loan points for purchase loans must be paid at the time of closing. So even though you are not required to make a down payment on a VA loan, choosing to pay for discount points will add to the closing costs required to buy the home. You’d pay more up front in the short term in exchange for a lower monthly mortgage payment and less interest paid throughout the loan term.
How VA discount loan points work
Purchasing VA loan points can provide not only monthly savings on your mortgage payment, but if you stay in the home for many years, it also could result in major interest savings over the length of the loan.
Here’s a breakdown of what purchasing VA loan points looks like:
→ The cost of 1 point is 1% of the loan amount. Therefore, if the total loan amount is $400,000, the cost of 1 point is $4,000.
→ The VA does not have a limit to how many points you can buy on a VA loan, but lenders may impose their own limits on how many points you can purchase.
→ For purchase loans, borrowers must pay for points in cash at the time of closing. They cannot be rolled into the loan amount.
→ If the loan is a VA streamline refinance — also known as a VA interest rate reduction refinance loan, or VA IRRRL — borrowers can roll up to 2 points into the loan amount.
→ When purchasing VA loan points on a cash-out refinance, borrowers cannot roll the cost of the points into the loan amount. However, once the borrower receives cash from the loan proceeds, the borrower can use those funds to pay for the VA loan points if the lender agrees.
How to determine the break-even point for VA loan points
To determine if purchasing VA loan discount points is worth it, you’ll need to calculate your break-even point, which tells you how long it takes to recoup your closing costs. The break-even point is determined by dividing the cost of the discount points by your monthly savings.
Here is an illustration of the break-even point for a $400,000 purchase loan with a 5.5% interest rate with no points. This loan has a 30-year fixed-rate term with no down payment.
| Discount points | Interest rate | Upfront cost for points | Monthly payment* | Monthly savings | Break-even point |
|---|---|---|---|---|---|
| 0 | 5.5% | 0 | $2,271 | N/A | N/A |
| 1 | 5.25% | $4,000 | $2,209 | $62 | $4,000/$62 = 64.5 months |
| 2 | 5.0% | $8,000 | $2,147 | $124 | $8,000/$124 = 64.5 months |
| 3 | 4.75% | $12,000 | $2,087 | $184 | $12,000/$184 = 65.2 months |
| 4 | 4.5% | $16,000 | $2,027 | $244 | $16,000/$244 = 65.6 months |
*Includes principal and interest only. Taxes and insurance not included.
In these examples, it takes approximately five and a half years to break even when purchasing VA loan points. Therefore, you’d need to stay in the home that long or longer to make it cost-effective. If you think you will move or refinance the loan before that term is up, it’s not a good financial move to buy discount points.
However, there is another benefit of paying for points for a lower rate: the lifetime interest savings. The table below reflects the total interest savings over the full 30-year loan term for each option.
| Discount points | Interest rate | Upfront cost for points | Monthly payment* | Monthly savings | Break-even point |
|---|---|---|---|---|---|
| 0 | 5.5% | 0 | $2,271 | N/A | N/A |
| 1 | 5.25% | $4,000 | $2,209 | $62 | $4,000/$62 = 64.5 months |
| 2 | 5.0% | $8,000 | $2,147 | $124 | $8,000/$124 = 64.5 months |
| 3 | 4.75% | $12,000 | $2,087 | $184 | $12,000/$184 = 65.2 months |
| 4 | 4.5% | $16,000 | $2,027 | $244 | $16,000/$244 = 65.6 months |
The more you spend in discount points, the bigger the savings are over the long term. Additionally, the monthly savings of a buydown rate can be applied to other goals, such as funding a college or retirement fund.
THINGS YOU SHOULD KNOW
If you’re looking to refinance a VA loan with a VA IRRRL, you’re required to recoup your closing costs within 36 months. In other words, you need to hit your break-even point within three years or your application will be denied.
Pros and cons of purchasing VA loan points
When deciding whether or not to purchase VA loan points, it’s important to consider all the pros and cons to determine if they make good financial sense for you.
| Pros | Cons |
|---|---|
You’ll get a lower rate for a forever home. You may be able to write off the points on your taxes if they were used to buy your home or tap equity for home improvements. You’ll typically have a lower monthly payment. You’ll pay less in interest charges over the life of the loan. | You’ll need to stay in your home longer to recoup the discount point cost. You’ll pay more in total closing costs. You may not meet the 36-month VA break-even requirement for refinances. You may lose money if the military requires you to relocate to a new area. |
When should I pay for VA loan points?
When considering the purchase of VA loan points, keep in mind that there are some scenarios when it would make sense to pay for points.
- If you will remain in the home beyond the break-even point, purchasing points would be a good decision because you’ll save on your monthly payment.
- If you remain in the home for the life of the loan, you’ll maximize your lifetime interest savings thanks to the lower interest rate.
- The money you save each month can be applied to other savings goals, such as retirement savings, kids’ college tuition and vacation funds.
- Purchasing points when refinancing makes sense if your break-even point is within 36 months of closing the loan.
Of course, purchasing VA loan points may not be right for everyone. In that case, there are other ways to save on your VA loan. These include:
→ Shopping around with lenders to find the best interest rates on your VA loan
→ Improving your credit score to receive better interest rates
→ Getting a mortgage rate lock to guarantee you’ll get a specific interest rate before rates change
Frequently asked questions
Yes, VA loan points are available for purchase on a VA loan to help you save on interest over the life of the loan. You must pay for discount points at closing (refinancing allows you to roll up to 2 points into the cost of the loan), so paying for discount points involves a trade-off in which you pay higher upfront closing costs to save on interest in the long term.
The buyer can purchase VA discount loan points or work out a concession for the seller to pay for the points. The seller can pay up to 4% of the sales price toward costs for the buyer.
No, the VA funding fee is a separate cost that goes toward offsetting the taxpayer cost of the VA loan program.
Deciding if VA loan points are a good or bad idea depends on the borrower’s financial and living situation.