You may have heard the term “rate buydown” on your new home search in the Carolinas, but what does it mean? We asked Flynn Harris of Atlantic Bay Mortgage Group to give us the details on how this financing arrangement works to help you understand its benefits.
What is a Rate Buydown?
A buydown is a way for a borrower to obtain a lower interest rate. When offered by one of our preferred lenders in the Carolinas, Empire will purchase discount points against the buyer’s mortgage loan or pay interest upfront at closing. It allows the buyer to make lower mortgage payments for the first few years of their loan, with payments increasing slightly in the third year.
How it Works
Depending on your overall goals, this is a great way to reduce your monthly mortgage payment without taking on additional risk with other loan options such as Adjustable-Rate Mortgages (ARMS) since buydowns are fixed-rate programs. They can also be used on almost all loan types such as VA, Conventional and FHA, and the prepaid interest required upfront is usually paid for by the seller.
“Mortgage interest rates have trended higher during the last year. A 2-1 buydown is a temporary interest rate buydown for the first 2 years of the loan, lowering the interest rate by 2% for the first year of monthly payments and then by 1% for the second year of monthly payments,” says Harris. “The interest rate then goes back to the original rate for years 3 through 30. Essentially, it allows homeowners to save money by reducing the principal and interest payments collected during the 2-year buydown period.”
Types of Rate Buydowns
While there are a few rate buydown structures to choose from, the most common is a 2-1 buydown. With a 2-1 program, monthly mortgage payments will be at their lowest in the first year and will increase slightly in the following year. The full interest rate will come into effect in the third year of the loan. In most cases, a 2-1 buydown will cost fewer points than other buydown programs, but the savings may also be less. Take a look at our example below illustrating how this rate buydown structure works.
Buydowns reduce your interest rate, making your dream home that much more attainable. In today’s market, they allow you to take advantage of low home prices and low payments, saving you money during the initial loan term and allowing you to qualify more easily for your mortgage.
If and when rates drop, you can refinance into a lower monthly payment for the remainder of the term. With your funds being held in an escrow account, the balance of the escrow fund will be applied to your principal balance. In other words, you won’t lose any of your incentives like a permanent rate buydown.
Is it Right For Me?
When it comes to finances, the best way to determine what’s right for you is to speak with a Mortgage Loan Officer. These industry experts can point you in the direction of the best financing options based on your individual scenarios, goals and needs.