You know the saying, “If it looks like a duck and quacks like a duck, then it probably is a duck.” But when it comes to buying a home, which is one of the biggest expenses (if not the biggest) you’ll undertake, the mortgage lender with the lowest interest rate might not always the best deal for your bottom dollar.
Sure, it’s important to get a low interest rate. But if you focus solely on that number and don’t compare home loan options, you won’t get a complete or accurate picture of how much you’re paying for your mortgage.
Even worse, ignoring other aspects could cause you to choose a mortgage that’s not right for your specific financial situation or leave you without the cash needed for an emergency or home improvements.
To compare mortgage options find the one that’s right for your budget, you need to take the following three factors into consideration when comparing home loans:
1. Discount Points
When it comes to a mortgage, points (or more formally, discount points) refer to the fees you’ll pay directly to a lender at closing to get a lower interest rate.
One point is equal to 1 percentage point of your mortgage. Typically, 1 point lowers your interest rate by 0.25 percent, but that reduction can vary from lender to lender.
So let’s assume you’re shopping around for a 30-year, $185,000 mortgage with an interest rate of 5 percent. If you purchase 1.5 points (yes, you can buy fractional points), you’ll have an upfront charge of $2,775, but your interest rate will be reduced to 4.625 percent for the duration of your loan.
In this example, purchasing 1.5 points will reduce your monthly mortgage payment from $978 to $951. That might not sound like a lot, but you’ll break even in 8.6 years. If you plan to stay in your house longer than that, purchasing points will save you money.
NerdWallet’s points calculator runs the numbers to help you determine whether you should buy points or not.
2. Closing Costs
It’s perfectly understandable that you’re focused on the interest rate when shopping around for a mortgage. But it’s important to keep in mind that you also have other expenses you’ll need to pay for at closing — charges that are collectively dubbed closing costs.
According to Zillow, closing costs typically run 2 to 5 percent of a home’s purchase price and are made up of charges such as appraisal fees, escrow payments, and deed preparation fees.
Closing costs can vary drastically from lender to lender, so when shopping for a mortgage, ask potential lenders to disclose all the closing fees you’ll be required to pay. Armed with this information, you can make an apples-to-apples comparison between home loans.
3. Future Expenses
There’s more to paying for your new home than making your monthly mortgage payment. You’ve probably already thought of repairs and potential renovations that you want (or must) make, but charges like homeowners insurance premiums and property tax might not be on your radar.
It’s possible that you’ll be required to pay these costs upfront as part of your monthly mortgage payment. Your mortgage lender will hold your payment in what’s called an escrow account and make the tax and insurance payments on your behalf.
This ensures that these expenses are paid on time and protects your lender from tax liens and other financial losses.
Once you’re ready to take the next step, check out Ally Home’s Mortgage Playbook.
Interest rates are important, but so are the costs associated with points, closing, and future expenses. That’s why it’s essential you take all these factors into consideration when you comparison shop for mortgages. Once you do so, you can see that all mortgages are not created equal. Whether the best priced one will quack its approval at you is another thing, though.