What do points or discount points represent in a mortgage loan?

Points, or discount points, represent prepaid fees that a borrower pays upfront to secure a mortgage loan. Each point typically costs 1% of the loan amount and is paid at closing. By paying these points, borrowers can effectively lower their interest rate, which can lead to significant savings over the life of the loan. This upfront payment is considered a way to "buy down" the rate, making the monthly payments lower than they would be without the points.

While points can influence the interest rate adjustments, the primary function of paying points is to reduce the long-term cost of borrowing by securing a lower rate. Thus, understanding that points serve as a form of prepaid interest is key to maximizing the economic benefits when obtaining a loan.