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No-Fee Home Loans? Points vs. Rate?

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A common question for a first-time homebuyer who happens to have plenty of funds for a down payment is:
Instead of using the current rate of 6.75%, my lender says that I should take a "no-fee" loan of 7.5%. That way, I wouldn't have to worry about any of the closing costs (around $4,000), and he said that I could refinance when the rates drop. . .
Things to consider in answering the quesetion
  • If rates go up so you cannot refinance, then you are going to end up paying much more over the long term with the higher rate.
  • If rates stay where they are, you are going to have to pay closing costs if you refinance. In effect, you are going to have to get the same loan twice.
  • If rates go down, but only after a few years, then by the time you refinancee you will have already cost yourself more in excess interest than you saved on closing costs.
Most first-time homebuyers struggle to make a down payment. If you can use a no-fee loan to help meet critical down payment cut-off points, then you can lower your cost of mortgage insurance. If that extra $4,000 can help you get to 5%, 10%, or 20% for a down payment, then go for it.
On the other hand, if you can reach a cut-off point without help, then the more you pay in points up front and the lower your long-term rate, the better off you are. Refinancing is time-consuming and expensive. Always go for the best rate you can get the first time, rather than planning to refinance your way out of a bad loan.
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