What Are Seller-Paid Points?
Seller-paid points refer to an offer proposed by a seller of an asset to rebate a portion of the purchase price to a buyer or an offer to pay part of the associated costs of a transaction that are typically borne by the buyer at closing.
- Seller-paid points are rebates or transaction costs that are paid for by the seller of a property or asset to the buyer's benefit.
- In real estate transactions, sellers may pay discount points toward the buyer's mortgage or closing costs in order to consummate the deal.
- Seller-paid points reduce the interest rate on a mortgage loan by a certain percentage.
Understanding Seller-Paid Points
Mortgage points represent a fee paid to lower the interest rate on a mortgage loan for the purchase of a home. Mortgage points are also called discount points because they reduce the interest rate on a mortgage loan by a certain percentage.
The amount of interest rate reduction for each point can vary between lenders, but usually, purchasing one mortgage point would lower the interest rate on a loan by .25%. In other words, a mortgage loan interest rate of 4% would be reduced to 3.75%. Typically, one mortgage point costs 1% of the loan amount, meaning that it would cost $2,000 to buy one mortgage point for a $200,000 loan (.01 * $200,000).
Homebuyers sometimes purchase mortgage points to reduce the loan's interest rate with the goal of saving on the total interest cost over the life of the loan. The fee for the mortgage points is paid at the loan's closing or when the documents are signed with the lender. Although homebuyers usually buy mortgage points, sometimes a seller might offer to pay mortgage points on behalf of the buyer to entice the buyer to purchase the home.
Benefits of Seller-Paid Points
Seller-paid points offer benefits to both buyers and sellers alike.
Lower Interest Costs
Since buyers typically finance the purchase of a home through borrowing from a bank, they will have to pay an interest rate that's applied to the principal amount of the loan. Seller points reduce the interest rate paid on the debt. Seller points also have the effect of increasing a buyer’s down payment by reducing the price that's ultimately paid for the home since the borrower will pay less interest over the course of the loan.
Seller points could also be used to lower the monthly payment helping the borrower afford the mortgage more easily. If a mortgage interest rate is reduced, the monthly payment is usually reduced as well—all else being equal.
Seller-paid points also have tax advantages for the buyer. Seller-paid points can be deducted from the home buyer’s income taxes as mortgage interest. The Internal Revenue Service (IRS) considers seller-paid points as prepaid interest or interest paid by the buyer of the home. Mortgage interest can be deducted from a homeowner's total taxable income when they file their taxes. As a result, seller points can also be deducted, reducing the buyer’s tax liability.
Sellers Can Sell their Home Quickly
Sellers who want to sell their home quickly can entice buyers into purchasing their home by sweetening the offer with seller-paid points. Also, seller points can be a more attractive option than a straight discount.
Let's say you're selling your home, and it has a list price of $200,000, but you are willing to accept an offer of $195,000. You could reduce the list price by $5,000, or you could strategically offer $5,000 in seller points instead. You’d still end up with the same amount of money, but the buyer would likely be better off with the points versus the $5,000 discount. The points would come with a tax deduction and reduce the loan's interest rate, which would lower the mortgage's total interest cost.
According to the IRS, there are requirements that must be met for when you're allowed to deduct the mortgage interest and points paid. If you can deduct all of the interest on your mortgage, you will likely be able to deduct all of the points paid on the mortgage. Typically, you can deduct the mortgage interest on the first $750,000 of the debt total. In other words, beyond the limit of $750,000, you won't be able to deduct all of your interest or all of your points.
The mortgage loan must be a loan to finance your primary residence. The points paid can't be for costs that are listed separately at the closing or on the settlement sheet. These costs include appraisal fees, title fees, inspection fees, attorney fees, and property taxes.
Also, it must be an established practice in your local area for lenders to offer points. The points must be computed as a percentage of the loan's principal amount, and the amount must show clearly as points on your settlement statement.
Example of Seller-paid Points
Let's say as an example that a buyer is looking to purchase a home with a listing price of $250,000. The buyer plans to put a downpayment of $50,000 or 20% of the purchase price.
As a result, the buyer plans to take out a $200,000 mortgage loan to be paid in monthly installments for 30 years at a rate of 4.50%. Below are the financial details of the loan.
|Mortgage Loan Cost Without Seller-paid Points|
|Terms||Without Seller-paid Points|
|Total interest paid||$164,814|
As shown above, the buyer's monthly mortgage payment would be $1,013 excluding property taxes and home insurance. By the end of the 30-year period, the home would cost the buyer $164,814 in interest.
The seller decides to offer two seller-paid points. The lender knocks down the interest rate by .25% for each point, meaning the new interest rate is 4.25%. Below are the new financial details of the loan.
|Mortgage Loan Cost With Seller-paid Points|
|Terms||Without Seller-paid Points||With Seller-paid Points|
|Total interest paid||$164,814||$154,197|
|Total interest saved||—||$10,617|
The buyer's monthly mortgage payment would decrease to $984 per month, excluding property taxes and home insurance. By the end of the 30-year period, the home would cost the buyer $154,197 in interest.
Assuming no extra payments were made over the course of the loan, the buyer would save $10,617 by the time the mortgage loan was paid off in 30 years, thanks to the seller-paid points.
IRS.gov. "Topic No. 504 Home Mortgage Points." Accessed Jan. 01, 2021.
IRS.gov. "Publication 936 (2019), Home Mortgage Interest Deduction." Accessed Jan. 01, 2020.