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Mortgage 101 - Buy Down?
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What is a Buy-Down?
A buy-down feature
of a loan is not the same as "buying down" the rate.
Though similar sounding, they are entirely different. Buying down the
rate refers to the common practice of paying discount points to obtain
a rate lower rate than the listed rate. A "buy-down" is a temporary
reduction in rate for a specified time. A 2/1 buy-down means the rate
for the first year of the mortgage will be 2% less than the actual note
rate, and the rate for the second year will be 1% less than the note
rate. In the third year and subsequent years the borrower will pay the
actual note rate. For example, a borrower with an 8% fixed rate loan
with a 2/1 buy-down will have an interest rate of 6% the first year, 7%
the second year, and 8% for all years thereafter. There are numerous
combinations for buy-down options, but the most common are the 2/1 and
the 3/2/1.
A buy-down is not
a free lunch. The additional points paid at closing
for the buy-down roughly offset the reduced payments made during the
buy-down period. So why use a buy-down? There are a number of
situations where a buy-down makes sense. This list is not complete, but
it provides some insight into the possibilities made available with
buy-downs.
* A buy-down makes the payments lower initially. If
the borrowers are expecting an increase in their income, a buy-down is
a method of making the payments affordable with the lower income, and
deferring the higher payments until the income has increased. For this
option to work, the seller (or builder) would pay the discount points
required for the buy-down. Hence, instead of negotiating strictly on
price, the buyers would also negotiate for buy-down points.
* If borrowers need to extend their level of
qualification (need to stretch the amount of loan they qualify for), a
buy-down may be the answer. Although closing costs increase (unless the
seller is paying the buy-down points), the lower initial monthly
payment may increase the amount of qualification. The various loan
products treat buy-downs differently, and some don’t allow the use of a
buy-down in the qualification ratios. Check with your Loan Officer
about specific details on a loan that interests you.
* In some cases the borrowers have a relocation plan
that pays a specified number of discount points. Depending on the
circumstances of the borrower, it may be more beneficial to apply the
discount points to a buy-down instead of a lower note rate. A Loan
Officer can assist with this analysis.
* Some borrowers use a temporary buy-down as a means
of accelerating tax benefits. In order to move tax deductions into the
year of closing, discount points are paid for the buy-down. The
interest deduction (on the discount points) is immediately beneficial.
Although the tax benefits are slightly reduced during the subsequent
buy-down period, the payments are also lower. Check with your tax
advisor on the feasibility of using this strategy.
Does a buy-down
may make sense for you? Let's discuss your objectives to identify the
best combination of loan program, fixed or adjustable
rate, and buy-down possibilities.
My mortgage team
and I remain up-to-date with the various
mortgage rates, options, loan choices and alternatives and is an
invaluable resource for any home buyer or home owner who is considering
refinance.
We are committed to providing you with mortgage services
that exceed your expectations.
Feel free to
browse my decision-making
tools and calculators.
When you are ready
to discuss mortgage options give us a call. (916)
899-4839
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