Interest Rates: How a 2-1 Buydown Impacts Mortgage Payments

As the housing market shifts and mortgage rates rise, home sellers, builders, and loan officers get creative in attracting more homebuyers. One incentive that is currently making a comeback is called the 2-1 buydown, also known as a temporary buydown.

A temporary buydown in real estate is when the buyer, seller, or builder pays a portion of the buyer’s interest on their mortgage. Doing this reduces the buyer’s monthly mortgage payments considerably for the first two years of their loan’s term.

Read on to learn about the 2-1 buydown, how it works with sellers and builders, and why it may help you ease into your mortgage payment.

What Is a 2-1 Buydown?

A 2-1 buydown allows a homebuyer to temporarily lower the interest in the early years of their loan, which decreases their monthly mortgage payments for the first two years of homeownership. In exchange for the reduced payments during the buydown period, they pay a lump sum buydown fee at closing.

As an example, assume the current interest rate is 5%. With a 2-1 buydown, the first year of your mortgage will be 2 percentage points lower, or 3%. In the second year, your interest rate will be 1 percentage point lower, or 4%. In the third year, your interest rate will adjust to 5% and stay locked in for the remainder of your loan—or until you refinance.

In exchange for the temporary lower rate, the cost to buy down the interest rate is paid in the form of discount points at closing. The cost can be paid by the buyer, seller, or homebuilder in a purchase transaction. 

How Does a Temporary Buydown Differ from a Permanent Buydown?

If you use the 2-1 buydown method, you are essentially buying your way into obtaining a lower interest rate for the first two years of your mortgage. A permanent buydown is when you pay discount points to buy down the rate for the life of the loan. 

For a permanent rate buydown, the cost can fluctuate. One discount point, which is equal to 1% of your loan amount, will usually buy down your rate anywhere from 0.125% to 0.5%. The buydown strategy is one that should be considered on a case-by-case basis, as there are several factors to consider when determining whether it’s the right fit for you.

Who Can Buy Down a Mortgage?

Most buydowns are negotiated between the borrower and mortgage lender. In these cases, the buyer pays the cost to buy down their interest rate at closing. It’s not always the buyer who pays for the buydown, however. 

Sellers and builders can also benefit from a buydown because it helps seal the deal with the buyer, especially if the home has been on the market awhile. 

As the buyer, you can have your real estate agent negotiate a seller concession when submitting your offer. That seller concession can be used to pay for any closing costs associated with your loan, including discount points to buy down your interest rate.

Example of a 2-1 Temporary Buydown Mortgage

Let’s say a new home builder offers a 2-1 buydown program to incentivize buyers to purchase a new home. If the current interest rate on a 30-year mortgage is 5% and the homebuyer took out a $200,000 fixed-rate 30-year loan, their monthly payment during the first year would be $843 (3% rate). Their monthly mortgage payment would be $995 in year two (4% rate). In the third year, their monthly payment would be $1,074 (5% rate) and remain at that number moving forward.

Can You Refinance a Buydown Mortgage?

Temporary interest rate buydowns are common in a rising interest rate environment because they help buyers gradually work up to a full monthly payment. If interest rates drop during the buydown period or after, they can refinance without penalty.

For more details on how a 2-1 buydown works and what to expect when refinancing your temporary buydown loan, watch this video with Aaron Clowes of New Way Mortgage:

If you’re looking to purchase a home in the Sacramento area, contact the strategic team at New Way Mortgage. We offer competitive interest rates and options like a 2-1 temporary buydown, along with a variety of different loan programs to fit the needs of today’s borrower. Give us a call today at 916-465-6639.