Federal interest rates are on the rise again! They’re constantly going up or down. It’s best for you to get in while they’re low and housing inventory is high. Affording a home can become an issue as mortgage rates continue to rise and inventory remains low.
A mortgage rate buydown, or temporary buydown, is one tactic for home selling that might be an option for some home buyers in today’s real estate market. We break it down in this article what a mortgage buydown is, the pros and cons of a mortgage buydown, and what a mortgage buydown does to your interest rate.
What is a Mortgage Rate Buydown?
Mortgage rate buydowns were popular in the late 1970s/early 1980s when home interest loan rates were high. They’re becoming more popular today as interest rates are beginning to take an upturn.
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In short, a mortgage buydown is a way for a borrower to get a lower interest rate by paying an upfront fee – also known as mortgage point payments – on closing day to get a reduced interest rate for a period of time.
This is usually done by doing a 2-1 buydown or 1-0 buydown.
A 2-1 buydown is a mortgage financing option where the borrower pays an upfront fee to lower their interest rate for the first two or three years of the loan. Here’s how it works in real estate:
- In a 2-1 buydown, the borrower pays an upfront fee to the lender, typically a percentage of the loan amount, to lower their interest rate by 2% in the first year and 1% in the second year of the loan. This means that the borrower will have a lower monthly payment in the first two years of the loan, which can be helpful for budgeting and cash flow.
- After the initial two or three years, the interest rate on the loan will increase to the original rate agreed upon by the borrower and lender. This means that the borrower’s monthly payment will increase as well.
The 2-1 buydown option can be attractive to borrowers who expect their income to increase in the future, or who anticipate that they refinance their mortgage at a lower rate after the initial two or three years.
Consider the costs and benefits of a 2-1 buydown including the upfront fee, the potential for higher monthly payments after the initial period, and the possibility of refinancing in the future. It’s also a good idea to compare this option to other mortgage financing options to determine the best fit for your individual needs and financial situation.
Similar to a 2-1 buydown, a 1-0 buydown is when a lender pays 1% of the fees to the lender upfront for the year of the loan. They will have a lower interest payment for the first year but it will increase in the second year — back to the original agreed-upon interest rate.
Different Types of Mortgage Point Payments
Lump sum mortgage point payments can reduce mortgage payments at the beginning or throughout the lifetime of your mortgage. There are two types of mortgage point payments: origination points and discount points.
Mortgage Origination Points
Mortgage Origination Points are fees charged by the bank to cover the costs of processing and underwriting your mortgage. Typically, one point equals 1% of the total amount you’re borrowing.
So if you’re borrowing $200,000, one point would be $2,000. Origination points are usually paid at closing and can be put into your mortgage if you don’t want to pay them upfront.
Mortgage Discount Points
Mortgage Discount Points are fees you can pay to “buy down” the interest rate on your mortgage. Each point typically costs 1% of the total amount you’re borrowing and can lower your interest rate by 0.25% to 0.5%, depending on the lender.
So if you’re borrowing $200,000, one point would cost $2,000 and could lower your interest rate by 0.25% to 0.5%. Discount points are paid at closing, and can be a good option if you plan to live in your home for a while, as they can save you money on interest over the life of your mortgage.
The Cost of Buying Down Your Interest Rate
There are financial AND mental costs to buying down your interest rate. The financial is the typical 1-2% — depending on the agreement – will cost more at the beginning but will “buy” you time in the long run for the first year (or two) as you pay the loan back.
It will cost you mentally because you’ll have to put a lot of money as down payment at the beginning. For some, that’s a lot of money to swallow. But maybe it will help your financial situation down the road.
Pros & Cons of Mortgage Rate Buydowns
Buydowns can be a useful tool for borrowers looking to reduce their monthly mortgage payments. But there are also potential drawbacks to think about.
Here are some pros and cons of real estate buydowns:
Pros of Temporary Buydowns
- Lower payments: Buydowns can lower your monthly mortgage payments in the short term, which can be helpful if you’re on a slim budget or if you expect your income to increase in the future.
- Interest savings: Depending on the type of buydown you choose, you may be able to save money on interest over the life of your loan.
- Predictable payments: Buydowns can provide predictable payments in the short term, which can be helpful for budgeting and planning.
Cons of Temporary Buydowns
- Upfront costs: Buydowns typically require an upfront payment, which can be a significant expense.
- Higher long-term costs: If you choose a buydown that reduces your payments in the short term, you may end up paying more in interest in the long run.
- Limited options: Not all lenders offer buydowns, and the options that are available may be limited.
Overall, buydowns can be a good option for some borrowers, but it’s important to carefully consider the costs and benefits before deciding if it’s the right choice for you. You should also compare buydowns to other mortgage financing options to determine the best fit for your individual needs and financial situation.
828 Real Estate is Here to Help You Navigate Mortgage Buydowns
Contact 828 Real Estate today so we can walk you through the ins and outs of mortgage buydowns. We partner with you and help you purchase your dream home in the High Country. Let 828 Real Estate sell your home today.