What Is A “Buydown”?
A mortgage rate buydown (“buydown”), is when money is paid upfront, either by the buyer or seller, to secure a lower interest rate. This can either permanently lower the rate (permanent buydown) or temporarily lower the rate (temporary buydown).
Permanent Buydown
A permanent buydown is a way for a borrower to obtain a lower rate for the life of their loan on a fixed rate mortgage, by paying discount points at the time of closing.
How Much Does A Permanent Buydown Cost?
The cost varies, but 1 discount point equals 1% of the amount borrowed. So if you are borrowing $400,000 then 1 discount point costs $4,000. Pricing on mortgage interest rates varies daily so there is no set rule, but generally it’s about 1 point to buydown the interest rate by 0.25%. So, if a borrower is obtaining a mortgage for $400,000 and can get a 30 year fixed rate of 6.000% then paying a point or $4,000 could lower their rate to 5.75%.
Is Paying Points Worth It?
This all depends on your situation and how much it actually costs to buy down the rate a certain amount. You want to work with your loan officer to run the numbers and figure out the breakeven point. In the example used above, a borrower would save $63.91 per month by buying down their interest rate for a cost of $4,000. This means the benefits of the lower rate wouldn’t be seen until after making payments for 5 years and 3 months. However, over the life of the loan you’d save $19,008, if paid on schedule. There are other factors to consider as well, such as what could that extra $4,000 do for you and your new house now. It’s important to work with a lender who takes the time to go over all these options like we do here at the Applied Mortgage team.
Temporary Buydown
A Temporary Buydown is when a party in a mortgage transaction (usually a seller or builder) pays a lump sum upfront in order to reduce the interest burden for the buyer in the early years of the loan. The most common are 2-1 or 1-0 buydowns. A 2-1 buydown lowers the rate for the first 12 months by 2% and then by 1% in months 13-24 before going back to the Note rate for the final 28 years. A 1-0 buydown reduces the rate by 1% for the first 12 months then reverts back to the Note rate for the final 29 years. The money paid upfront, which equals the difference int eh payments (see examples below) go into an escrow buydown account and gets released each month to reduce the borrower’s payments.
How Much Does A Temporary Buydown Cost?
1-0 Buydown
Loan amount: $400,000
Interest Rate: 6.000%
Term: 30 year fixed rate
$3,010.96 would be the cost of the buydown in this example. This money would be paid by the seller or builder upfront and get put into a buydown escrow account to lower the payment to the buyer in the first year.
Please note: above payments do not include any taxes, insurance or mortgage insurance as those vary and do not affect the buydown or their cost.
2-1 Buydown
Loan amount: $400,000
Interest Rate: 6.000%
Term: 30 year fixed rate
$8,873.43 would be the cost of the buydown in this example. This money would be paid by the seller or builder upfront and get put into a buydown escrow account to lower the payment to the buyer in the first two years.
Please note: above payments do not include any taxes, insurance or mortgage insurance as those vary and do not affect the buydown or their cost.
Is a Temporary Buydown Worth It?
They are most beneficial when the seller or builder will fund it without significantly increasing the purchase price of the home. If a person is in position where their income will be increasing soon, or big expenses will be going away then a temporary buydown may be worth it to give a temporary period where the payment will be more manageable. A lot of people are asking about temporary buydowns in a higher rate environment, hoping that it buys them time for rates to decrease so they can refinance. This can be a dangerous strategy as rates aren’t guaranteed to drop and you aren’t guaranteed to be able to refinance if they do. Make sure you will be comfortable at the full payment even if a buydown is right for you.
Pros and Cons
Are There Restrictions?
Yes, and you should consult your lender as restrictions do apply. Temporary buydowns have a lot more restrictions than permanent buydowns. Permanent buydowns are mostly just limited to the dollar amount that can be spent. Temporary buydowns are restricted on the total amount that can be spent as well as there being restrictions on the loan programs they can be used with and property types. Investment properties and cash-out refinances are ineligible for temporary buydowns. Speak to your Lender about other restrictions as well.
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