The current interest rate climate in the housing market has peaked since the early 2000s, posing challenges for homebuyers. Those searching for their dream homes since the spring of 2020 have encountered consistently low inventory, a significant influx of people relocating at the onset of the pandemic, and numerous bidding wars. Consequently, they are now facing the burden of the highest interest rates seen in two decades. A few years ago, buyers could secure homes with interest rates half of what they are today. Let's explore strategies for buyers to save money in today's high-interest rate environment and potentially reduce expenses over the course of their loan.

Explaining the Concept of Mortgage Buydowns

First, let’s talk about mortgage buydowns, what they are, and how they will work for you.  The concept of a mortgage buydown can come in three forms.  The first is when a Buyer can temporarily receive discounted mortgage payments for the first 1 or 2 years and then are subjected to revert to the initial discounted rate from year 3 to the end of the loan term.  Most of these mortgage buydowns are offered at a 30-year fixed interest rate and are discounted for the first one to two years to save money during that time.  The second is when the Buyer “buys down” the interest rate.  This allows the Buyer to pay their interest up front in a lump sum to offer significant savings during the life of the loan term.  The third and final option is choosing an adjustable-rate mortgage, better known as an ARM.  An ARM offers a fixed interest rate for a smaller time period (3 to 5 years); after that initial term, the interest rate “adjusts” back to current market rates.  

How to Determine if a Mortgage Buydown is Right for You

Let’s explore the advantages of employing a mortgage buydown and assessing whether it suits your circumstances. By buying down a mortgage, borrowers can lower their monthly payments and ultimately save money on interest over the life of the loan. One of the key advantages of a buydown loan is that it provides immediate relief by offering lower initial payments. This can be especially beneficial for those needing some time to adjust financially after purchasing a home. This approach not only makes homeownership more accessible but also allows individuals to allocate their resources more effectively.  Additionally, by lowering the interest rate through a mortgage buydown, borrowers can save thousands of dollars over their loan term. These long-term cost savings can free up funds for other financial goals or investments, providing greater flexibility and stability in managing personal finances. 

Embracing a mortgage buydown strategy presents an opportunity for homebuyers to secure affordable home financing while enjoying reduced monthly payments and long-term savings on interest.  A mortgage payment calculator, which allows you to input different interest rates, loan terms, and money down, can estimate the potential savings of a buydown versus a traditional mortgage.

The Different Types of Mortgage Buydowns and How They Work

Which buydown makes the most sense for you financially? As discussed above, there are three options for mortgage buydowns, and we will dive deeper into each now.  The first option is a temporary buydown. This usually comes in 3-2-1, 2-1, or 1-0 term options. This buydown allows a temporarily reduced rate for the first 1, 2, or 3 years and then automatically raises the interest rate at the end of the term. Upon completion of the term selected, the mortgage rate defaults back to the rate of a 30-year fixed rate.  In the 3-2-1 example above, in the first year, the interest rate is reduced by 3%; in year 2, it is reduced by 2%; and in the last year, it is reduced by 1%.  This will allow borrowers the ability to adjust financially to home ownership and save money on their loan at the same time.  

The second type of mortgage buydown is a permanent option, also called “paying points.”  This happens when the borrower covers upfront interest expenses during the closing rather than enduring a higher interest rate throughout the entire 30-year duration of the loan. Often, “1 point” varies by lender but is often a 0.25% reduction in interest rate; the cost to the borrower is 1% of the purchase price of the loan amount. This is beneficial if you plan to stay in your home over a more extended period and if you have additional funds in savings after your own money.  If you purchase 1.5 points on a $200,000 loan, the interest rate would be reduced by .75%, and the upfront cost at closing would be approximately $3,000.  

The last type of mortgage buydown is an ARM loan. This locks a borrower into a fixed-rate mortgage at the beginning of the loan term, somewhere between 3 to 5 years. At the end of the fixed rate term, the mortgage rate will increase to the market rate, as you agreed at your home closing.  This could cause a significant jump in mortgage payment after the fixed rate is over unless the market rate has since lowered from when you locked into the loan, or you could refinance the loan and choose a longer-term fixed-rate mortgage. This is often good for borrowers expecting interest rates to fall before their interest rate switches to an adjustable rate.  

Tips for Successfully Implementing a Mortgage Buydown Strategy

Once you understand the basics of mortgage buydowns, you can decide on the one that offers you the most long-term benefits and significant savings. The next item to consider is exploring if there is a way to supplement the upfront cost of a buydown or ARM.  Some lenders, home builders, or sellers can offer to defer the cost of these buydowns and have the funds go directly to the buyer at the closing table via the title company; this stipulation would be listed on the closing disclosure. By following these tips and carefully planning your mortgage buydown strategy, you can set yourself up for long-term financial success and enjoy reduced monthly payments on your home loan.

At Berks Homes, we want you to work with a lender we trust and would use for our home financing.  We welcome you to visit our financial resources page on our website. You will find the list of our four preferred lenders: https://www.berkshomes.com/financial-resources . To uncover any promotions or deals they might be running, select a lender or a few and initiate contact to explore the options they can provide you.