Mortgage rates dip again, but experts warn low teaser rates can hide a costly trap

Mortgage rates are easing a little for buyers — at least on the surface.

The average contract rate on a 30-year fixed mortgage has fallen for a second consecutive week, slipping to 7.37% from 7.41% on conforming loans of $832,750 or less, according to the Mortgage Bankers Association. Applications rose 3.4%, and purchase applications are now up 4%.

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In other words, more house hunters are picking up the phone again. But the benefit may be smaller than it appears.

Rates are still above where they were a year ago, purchase applications remain 18% below last year's level, and many homeowners are still locked into mortgage rates well below today's market.

That has borrowers looking for savings wherever they can find them. Beyond adjustable-rate mortgages, some buyers are turning to another option: lenders may offer a lower rate in exchange for cash paid at closing — a move financial experts say can become expensive over time.

Mortgage points can add thousands in upfront costs

Experts say the hidden drawback is discount points, a feature that may look attractive but can end up costing buyers thousands over the life of the loan.

“First time buyers, especially, are feeling the pinch of affordability and want a more palatable monthly payment,” Benjamin Clark, president of the National Association of Exclusive Buyer Agents, told Moneywise. “Snagging a low interest rate feels like a massive win. It addresses their immediate concern about monthly costs but it often blinds them to the costs associated with paying points on a mortgage.”

Lenders often include discount points in mortgage offers through a process known as buying down the rate. The borrower pays money upfront in exchange for a lower monthly payment and reduced interest rate.

Each point equals 1% of the loan amount. For example, on a $400,000 mortgage, a two-point deal would require $8,000 upfront in exchange for a lower rate.

Although points are commonly offered at one point or less, some lenders may offer two points on certain below-average mortgage rates.

Mike Fratantoni, the MBA’s senior vice-president and chief economist, told Moneywise that if a borrower stays in the loan only for a short period, “the effective cost is going to be higher than the APR.”

Clark said that once those upfront dollars are paid, they are gone for good. “If life happens — a job transfer, a growing family or an opportunity to refinance to a lower rate — none of that money is returned.”

And if the borrower later refinances, “rates won’t just need to match the bought-down rate, they will need to go at least that much lower” for the move to make financial sense.

Clark argued that lenders are making a calculated bet that shifts more of the cost to the buyer, keeps borrowers in loans longer and boosts bank profit immediately — all while advertising a more attractive rate.

Still, John Cooper, a certified financial planner with Greenwood Capital, said points can make sense in a higher-rate environment depending on how long the mortgage will be kept. Using an example in which points save $100 a month but cost $8,000 upfront, he said the borrower would need to hold the mortgage for 80 months to break even.

For someone planning to stay in the home long term, that math may work. For someone refinancing in a few years, it may not.

“It’s really an individual’s anticipation of how that loan may play out,” Cooper told Moneywise, “or their goals and objectives with it.”

Don’t let a low mortgage rate distract you

Fratantoni says buyers should remember that “there are literally thousands of lenders competing for your business” and should compare rates and points across several lenders before deciding.

Clark also suggests that buyers may build equity faster by avoiding the rate buy-down and instead negotiating a lower home price, then using the money saved to help cover the mortgage. “Not only would this avoid losing any of that money in a refinance or sale,” he said, “but it keeps the cash liquid and accessible for other investments or emergencies.”

Cooper also cautioned borrowers to watch loan origination fees, which cover administrative and underwriting work tied to the mortgage application and can exceed 1% of the loan amount.

He recommends comparison shopping and also seeking help from an independent advisor rather than one tied to the lender, since that person can help evaluate the numbers without having a stake in the outcome.

“There is a calculation associated with it,” Cooper said. “So then you do the math and say ‘Does this make sense for me?’”