Temporary Rate Buydowns
Written by: Peter Sola, Mortgage Loan Officer at Spire Financial
What are temporary buydowns?
Temporary buydowns, also known as 2-1 Buydowns, 1-0 Buydowns or temporary rate reduction are loans where the interest rate is reduced temporarily for the first few years of the loan. The reduction is funded by a deposit into a buydown account, a portion of which is released each month to reduce the borrower's payments. This can help a buyer ease into the full mortgage payment at the beginning of the loan term.
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How does a 2-1 or 1-0 temporary buydown work?
The rate is lowered for the first year or the first two years. As an example for a 2-1 buydown: if the note rate is 6%, the rate is reduced to 4% for the first year, then 5% for the second year, and then remains at the note rate (6%) for the remaining life of the loan. The monthly payments reflect the rate at the time, so the borrowers payments are lower during the first two years than they are for the remaining years.
The money to pay for the buydown is deposited into an escrow account and is paid monthly to the lender to make up the difference.
Who pays for a 2-1 buydown?
Spire Financial’s buydown programs allow the seller, builder or realtor to pay for the buydown.
Why would I offer a temporary buydown as a seller?
As a seller, you can offer this option as a concession for the sale of your property, giving a buyer an incentive to purchase your property – without lowering your list price. This in many ways is more powerful than a price reduction from the buyer’s perspective. This can possibly get buyers off the fence who wouldn’t have previously considered buying now.
The Details
Program Requirements
Conventional conforming 30 yr fixed; purchase only
95% max LTV/CLTV
1 unit primary SFR, PUD or Condo
For new construction, the borrower may not be affiliated with the builder/seller
620 minimum fico (no exceptions)
Buydown funds are counted against the limits on contributions from interested parties (3-6% max in most cases)
Buydown Agreement must be executed, and must provide that the borrower is not relieved of any obligation to make the mortgage payments required by the terms of the Note if, for any reason, the buydown funds are not available.
Program Exclusions/Limitations
DPA (CHFA/MetroDPA)
Subordinate Financing (ie HELOCS 80/10/10s etc)
Second Homes/Investment Properties
Manufactured Homes
High Balance Loans / Jumbo Loans
Examples
Example of a 2-1 Buydown: The loan is approved and closes with a 6% Note rate, and an escrow account is set up to buy the rate down for a 2 year period.
Year 1: The borrower’s P&I payment is calculated at 4% and the difference needed for the full 6% payment is drawn from the escrow account.
Year 2: The borrower’s P&I payment is calculated at 5% and the difference needed for the full 6% payment is drawn from the escrow account.
Year 3: The subsidy ends and the borrower makes the full P&I payment at 6% for the remaining life of the loan.
Why a buydown, versus a standard concession or price reduction? What are other options?
The impact of $15,000:
Price reduction: in today’s rate market reducing the amount borrowed by $15,000 would reduce the payment by about $90. If the client were putting 20% down cash to close is reduced by $3000.
Seller Concession: on the loan amount in our examples ($640,000) $15,000 would buy down nearly .75-.875% in interest rate. That is certainly a lot and would amount to $300/month, but remember, discount points are sunk costs, whereas the buydown could be refunded in the (in my opinion, likely) event of a refinance in the first few years.
FAQ’s
What happens if the loan is refinanced before the end of the temporary
period?
The buyer is the owner of the escrow account. Most every investor/servicer will apply the remaining balance as a principle/reduction or reduction of the payoff
How is that different than paying points to buy down the rate?
With discount points, you pay to buy the rate down for the life of the loan. Typically the rate is lowered by a small amount—say .125% to .5%. While this does reduce the payment, a temporary buydown lowers the rate (and thus the payments) much more significantly during the initial buydown period.
Thank you Peter for this great information! Have questions? Reach out to Peter today!
