Explore the Mortgage101 Library
Check Local Mortgage Rates
Loan Program Choices
Use our calculator to find out your estimated monthly payment in advance: Enter the loan amount, interest rate, and length of mortgage.
Try our Mortgage Payment Calculator
There are several pros and cons to a temporary mortgage buydown that need to be considered for any loan. A mortgage buydown is a type of mortgage that offers reduced rates when upfront cash payments are provided. The upfront costs will compensate the lender for the interest reduction. This type of of mortgage works best when a borrower's income level may change in the near future. For example, a borrowers partner or spouse returns to the work force, but is currently not working. A temporary mortgage buydown permits them to make lower monthly payments.
Temporary mortgage buydowns can be extremely confusing to average person, so it is of vital importance that anyone considering it knows exactly what will happen, and when. Essentially, the cash payment that is made up front is used to pay off interest over the first 36 months of the mortgage. This allows the applicant to be charged much lower interest rates, which translate to lower monthly payments. This fund can be established by either the buyer or the seller.
The main benefit of this type of mortgage is to attract potential homeowners who expect to be making substantially more income in the near future. Another benefit of this type of mortgage is that is often means the buyer ends up paying less for the property than the seller's listed selling price. Exactly how much is saved will depend upon the size and length of the buydown payment.
The most common types of buydowns are called either a 3-2-1 or 2-1 temporary buydown. A 3-2-1 buydown means that the interest rate drops 3% in the first year, 2% in the second year and then 1% in the third year. A 2-1 buydown entails a decrease of 2% in the first year followed by a 1% drop in the second year.
The main disadvantage of a temporary buydown depends on who is funding the initial buydown. If, for example, the seller is providing the funds simply to make the house more affordable for the buyer, then they are probably going to lose a good amount of money. This usually occurs when the builder or manufacturer provides the buydown as incentive for the buyer. If a buyer agrees to a buydown, there will usually be special provisions written into the contract.
Another important disadvantage is that the temporary buydown is a viable solution for those who have a large amount of cash in savings. This generally means only those with higher incomes will be able to afford a buydown, whereas those who lack either good credit, or liquid assets, will have to spend years amassing enough cash to supply the buydown payment. Of course, the higher income applicants are the ones who need the buydown option the least.
Also, keep in mind that agreeing to a temporary buydown may include large fees for closing costs and limit the type of home equity loans available to applicants. This may force the buyer out of the housing market altogether until their financial situation changes.
- Alternatives to Getting a 2nd Mortgage
- 3 Factors that Can Negatively Affect Your Mortgage Application
- Second Mortgages: Advantages and Disadvantages
- Low Down Payment Loan Qualification
- 3 Warning Signs of Loan Modification Scams
- 3 Common Short Sale Mistakes
- Short Selling a Rental Property
- What Lenders Don't Reveal About Home Equity Loans
- FHA Loans for a First-Time Home Buyer