In a recent press release, the Federal Housing Finance Agency said of the loans originated by Fannie Mae and Freddie Mac, "Forty-seven percent of the purchase-money mortgage loans originated in February were 'no-point' mortgages."  This shows how poorly informed forty-seven percent of borrower are.  I'll explain why.

No point loans are possible because Fannie and Freddie will pay more for higher-yield loans.  They do this because it is more profitable. But lending is a zero-sum game! One party wins and the other party loses. If it is more profitable to the lender, then it is more costly to the consumer. Why would borrowers make choices that are costly to them?

The answer is that they do not know what they are doing. Well at least 47% of them don't know what they are doing. Let's go back to basics. 

The purpose of 30-year fixed-rate loan is to provide long term rate protection. So theoretically you wouldn't get such a loan if you weren't going to stay in the home for a while.  And with rates this low, it is highly unlikely that you would have an opportunity to refinance into a better loan. Thus you are going to have this loan for along time.

Here's where agency pricing comes in. Remember, if they can get you to pay more interest for a long time, they make more money. How much?

The trade off of rate versus fee traditionally was a ¼% reduction in rate for a 1 point fee. That's a four year breakeven. Every year your interest expense is ¼% lower, $250 for every $100,000 in loan amount. The 1 point was $1,000 and every year you save $250 and at the end of four years you have the $1,000 back.  Thereafter, you still save $250 every year. Anyone who was going to own his home longer than 4 years should have taken that deal.

But when the government took over Fannie and Freddie they changed the pricing formula. Now zero point loans are much more expensive.  If you paid 1 point today you could get 4.75%.  A zero point loan is 5.25%. That's a ½% difference, TWICE what it used to be. That means it is TWICE as costly for consumers and they still won't learn.

Here is a comparison of costs and interest on a $250,000 loan over ten years. In this example, we kept the payment the same which coverts all the interest savings to principal reduction.

Rate          Interest      Points      Total      Balance in 10 years

5.25%         120,532       0          120,532      204,870 

4.75          105,762       2,500      108,262      190,101 

Difference                                  12,270        16,963

So pay an extra $2,500 upfront and collect $16,963 at the end of 10 years. That is the best part of getting a loan because you actually get your money back!!!!!

Frankly, our government people including Barney Frank and Chris Dodd and the people at HUD don't get it either. They keep saying that no point loans "lower the cost to consumers."  The only reason they say this is that they think that the $2,500 reduction really does save consumers money. They don't see that it costs consumers almost 7 times as the phantom savings.