Legal Definitions - Mortgage Rate Buydown

A Mortgage Rate Buydown is a financing strategy where an upfront payment is made to a lender to temporarily reduce the interest rate on a home loan for a specific period, typically the first few years. This results in lower monthly mortgage payments during that initial period. After the buydown period ends, the interest rate reverts to the original, higher rate agreed upon for the remainder of the loan term. This technique can make homeownership more affordable in the short term, either for the buyer or as an incentive offered by a seller or builder.

Here are some examples of how a Mortgage Rate Buydown might be used:

• Scenario: A First-Time Homebuyer Seeking Initial Affordability

  Maria and David are excited to buy their first home, but with current interest rates at 7.2%, they are concerned about the high initial monthly payments. Their real estate agent suggests asking the seller for a "2-1 buydown" as part of their offer. The seller agrees to pay a lump sum to Maria and David's lender. This payment reduces their interest rate to 5.2% for the first year and 6.2% for the second year. From the third year onwards, the rate will be 7.2% for the rest of the loan term.

  This illustrates a mortgage rate buydown because an upfront payment (made by the seller) temporarily lowers the interest rate for the initial two years of Maria and David's mortgage, making their early payments more manageable.

• Scenario: A Seller Incentivizing a Quick Sale in a Slow Market

  Mr. Henderson has had his house on the market for several months without much success, largely due to rising mortgage rates deterring potential buyers. To make his property more attractive, he decides to offer a "flat 1.5% buydown for the first year" to any qualified buyer. A buyer, Sarah, is approved for a 6.8% mortgage rate. Mr. Henderson pays a fee to Sarah's lender, which reduces her interest rate to 5.3% for the first 12 months of her loan. After the first year, her rate will adjust to the original 6.8%.

  This demonstrates a mortgage rate buydown because Mr. Henderson, the seller, makes an upfront payment to the lender to provide Sarah with a temporarily reduced interest rate, thereby incentivizing the purchase of his home.

• Scenario: A Home Builder Promoting New Construction Sales

  "Summit Homes," a large residential developer, has several newly built homes ready for occupancy. To boost sales and clear inventory, especially when market interest rates are high, they advertise a special promotion. For buyers who purchase a specific model home, Summit Homes will fund a "3-year buydown" that reduces the buyer's interest rate by 1% for the entire first three years of their mortgage. So, if a buyer's standard rate is 6.5%, the builder will pay to reduce it to 5.5% for the first 36 months, after which it reverts to 6.5%.

  This is an example of a mortgage rate buydown because the builder makes an upfront payment to the lender on behalf of the buyer, resulting in a consistently lower interest rate for the initial three years of the mortgage, making their new homes more appealing.