2-1 Buydown on your Loan: A 2-1 buydown is an agreement in your loan that allows for a lower interest rate the in the first full year of your loan, then it increases slightly for the second year of your loan, then goes to the full agreed upon rate for the remaining 28 years on the 30-year loan term. This happens because the seller or builder provides closing cost help, and those funds are used to push down the interest rate. The 2-1 buydown is one of the great tools that are used when interest rates start spiking up and it becomes much more difficult for first-time homebuyers to afford a home in their ideal price range.
To do 2-1 Buydowns you must do the following:
- Have Seller Concessions: The seller must provide closing cost help for this to work.
- Excellent Credit. Lenders only work with savvy buyers with excellent credit.
- Income and Job Stability. Since your mortgage payment will only go up in the years ahead, lenders want to make sure you will be able to afford the payments in the future ahead.
Another fantastic part of 2-1 buydowns is if the interest rates go back down and you end up doing a refinance, all of the funds will be applied to the principal balance of your loan. Otherwise, people would ask, is it even worth it to do a 2-1 buydown?
Example of 2-1 Buydown
Let’s say you’re buying a house with a $400,000 mortgage with a 30-year term. During the first year, you would get a sweet deal with an interest rate of 5% resulting in a monthly payment of $2,147. In the second year, it would go up to 6% pushing the monthly payment to $2,398. Then after the second year, for the remaining 28 years, it would be 7% with a monthly payment of $2,661.
Now keep in mind that if the interest rates were to go back down, you can always refinance, and anything retracted will be applied towards the principal.
Seller concessions are required in 2-1 buydowns because those proceeds are used to buy down the rate. If it’s a sellers’ market, you will not see many of these types of loans. Lenders also want to see someone with great credit and not average credit since this is a slight risk to them. They look for job stability since that decreases any chances of income loss during the initial two-year period.
2-1 buydown programs were mainly created to make homes more affordable. This has been the perfect loan program to use for the 2nd half of 2022. So many first-time homebuyers saved money for years only to fall into scrutiny thanks to the financial turmoil of mortgage rates thanks to inflation. This has been the perfect way to combat that.
|Year 1||Year 2||Year 3 – 30|
|Save 2%||Save 1%||Market Rate|
Another surge of loans buyers had been seeking had been ARM or Adjustable-Rate Mortgages. Adjustable-Rate mortgages give the lenders the right to raise your interest rate after a certain period. For example, if you have a 5/1 ARM loan, that means that for the initial 5 years of the loan, the rate will remain fixed. However, after that, the lender or bank has the right to raise rates every year for the remainder of the loan term.
Lenders have a good portion of their bread and butter that comes from Refinances. ARM loans set up the terms and structure of the deal to make sure they have more business in the future.
In conclusion, a 2-1 buydown has been around for some time but buyers will be taking advantage of it. It ultimately comes down to how motivated the builder or the seller is and if they are willing to work with the buyer given the market conditions.