Explaining 2/1 Buy Down Loans

Buying

It's no secret that for the past several years we have been in a sellers market and even an extreme one at times. As interest rates have increased the market has shifted. Buyers have begun to regain their ability to negotiate. You are probably familiar with negotiating repairs to the home, price and even credits for closing costs. But have you heard of asking the seller to provide a credit for a 2/1 buy down for your loan? This is a product that has been around for a long time but buyers haven't needed to use. Let's take a closer look at what exactly this tool is and how you can benefit from it.
 
Interest rates are still continuing to rise, making some buyers fearful that perhaps it may be best to wait to make their purchase. When using the 2/1 buy down, it can be a great time to buy! The 2/1 buy down eases buyers fears and allows sellers to help buyers feel more comfortable as well. This is a great product to help get people off the fence and into the home of their dreams.
 

Permanent Buy Downs

These are arguably the more traditional buy downs in the market. Buyers buy down one point which in return reduces the interest rate by 0.25% over the life of the loan. In today's market, this would mean taking the interest rate from 7% to 6.75%. While anything is helpful, 6.75% is still a fairly high interest rate. 
 

Temporary Buy Down

There are different types of buy downs but the most common one right now is the 2/1 buy down. The buyer would lock in the current rate of 7% for the life of the loan. However, the interest rate on Year 1 would be reduced to 5% and then in Year 2, the interest rate would be 6%. Year 3 returns to the standard rate of 7%. 
 

How Does It Work?

The lower interest rates of the first two years sounds great! But where does the difference in the payments go? You calculate the annual difference in payments for the first two years, as demonstrated above. This is the amount you will ask the Sellers to provide a standard credit to the buyer for. This credit is then placed in an escrow account. Each month, the buyer makes a payment at the lower rate. The difference in the lower rate versus the full rate is then pulled from the escrow account. This continues for the first two years. Let's take a look at an example of a 2/1 buy down on a loan of $800,000 with a starting interest rate of 7%:
 
 

What Happens If Rates Drop?

While we don't have a crystal ball, our expectation is that rates will drop. Given the current levels of inflation and the beginning of a recession, the likelihood of rates dropping is pretty evident. If rates drop, the money that remains in the escrow account can be returned to the buyer to be used on closing costs to refinance and/or used to reduce the principal amount of their loan.
 

What If Rates Don't Drop?

There is always that chance. Buyers still need to be qualified and pre-approved at the full rate of where the market is today. This reduces the likelihood the buyer would default on the loan at the end of the first two years.
 

Why would a buyer not want to do this?

This tool is incredibly useful in the current market. However, there are two reasons why the 2/1 buy down loan might not work for you. This product is currently available on loans of $970,000 and below, not on jumbo loans. While you may find a jumbo loan that offers it, oftentimes the fees outweigh the benefits at this level. The other reason would be if the seller isn't willing to negotiate. Perhaps the seller feels they have already negotiated enough on price or other terms and isn't willing to offer an additional credit. But it never hurts to ask!
 

Ready To Use A 2/1 Buy Down?

Great! Buyers are having a lot of success with this product right now. In fact, one of our top lenders, Hunter Marckwardt with CrossCountry Mortgage, LLC in Danville, used this tool with nearly half of buyer loans last week. Homes are staying on the market longer and prices are declining, making this a great time to buy. Contact Arrive Real Estate Group to make your home buying dreams come true and Arrive With Us today.

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