Jake's Lending Tip of the Week

With mortgage rates continuing to rise, the popularity of discount points and rate buydowns has increased as well. I covered discount points a few weeks back, and today we are going to explain the most common type of rate buydown… the 2/1 buydown.

The 2/1 buydown involves lowering the interest rate 2% for the first year of the mortgage, and 1% for the second year. For example, if the note rate on your mortgage is 5.5%, then you would have a monthly payment based on 3.5% in year one, followed by a payment based on 4.5% in year two. Starting in year three, the payment would return to 5.5% for the life of the loan. This is done by paying the difference that accrues over the two years between the payment at the lowered rate and the note rate at closing on the mortgage.

The pros and cons of the 2/1 buydown strategy are outlined below:

Pros

·        Lower payments for the first two years of the mortgage. This leads to more affordability in the short term.

·        In a higher interest rate environment, you can benefit from the lower payments with an eye on refinancing when/if rates improve

·        The seller typically pays the majority of upfront costs

Cons

·        The upfront costs can be substantial depending on the loan amount

·        There is no actual savings in interest due, as you are essentially prepaying the interest for two years

·        Your monthly payment will reflect the original note rate starting in year three

If you have questions about how the 2/1 buydown can benefit you, reach out today!