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What's a 2-1 buydown?

Written by
David Watermeier
October 5, 2022

A 2-1 buydown is when a seller or buyer contributes extra money upfront to reduce the mortgage interest rate by 2% the first year, 1% on the second year, and on the 3rd year the interest rate will be fixed for the remainder of the mortgage. The main purpose of this type of buydown is to give a cheaper alternative than buying points outright, it’s always cheaper to do this temporary buydown than a buydown on the interest rate for the life of the loan. With everything in life and our financial decisions it always comes with risks. Risks to purchase your home is a risk but it’s a significantly smarter risk than just renting forever or always waiting on the right time. A possible benefit of doing this type of buydown is if a buyer is expecting a reduction in interest rates within the next few years. Because after the buydown period has ended, there may be a financial benefit in refinancing to a lower fixed rate. As of August 2022, the majority of mortgage professionals are expecting the interest rate to begin lowering or at least stay consistent instead of the previous rise as we have seen.

For borrower’s with income types that are expected to rise in the next few years this can be a good way to EASE into paying full mortgage payments.

For the self employed borrower, 2 years can be a lot of growth for a small or medium sized business. Instead of paying a heavier mortgage payment. Those 2 years of reduced payments means better investment in the business itself to yield greater cash flow later. More money saved on mortgage payments means more money spent on improving a business, hiring good employees, or higher marketing expenses.

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For negotiations this can work well in the buyer’s favor. This type of buydown along with many other new loan options are helping turn the market finally into a buyer’s market. It’s becoming rare that sellers are receiving offers 50k over asking now with all waivers signed. A buyer can potentially ask the seller for concessions to help pay for the buydown. So the seller contributes money after the purchase that helps the borrower be more comfortable purchasing the home, while at the same time the seller doesn’t have to lower the price as much to be able to sell it. For example, maybe the seller would have to lower the price by 50k for the buyer to be comfortable with the deal. Instead, the seller offers 25k towards a 2-1 buydown, reducing the initial mortgage payments more than lowering the price 50k. This makes the seller happy they didn’t lower as much, and the buyer happy because they can ease into the payments and have time to increase their income.

Two things to note about it, the 2-1 buydown does not alter in any way the borrower’s ability to qualify for the loan. Their DTI (Debt-to-Income) ratio is still based off of the full interest rate after the buydown period has ended. So if the payments of the first year of the mortgage loan is $4,000 and after the period ends the fixed rate is $4,600 the buyer would have to qualify for the $4,600 payments. The second thing to understand is that 2-1 buydown is the same as 3-2-1 or 1-0 buydown. It’s all reducing the interest rate for a specific amount of years, and every year increasing it by 1% until it becomes a fixed rate mortgage for the remainder of the loan. If you’re thinking of an even higher buydown, it may be available within some lenders, but as for industry standards, usually 3-2-1 is the highest.

If you have any questions or want to get started on planning to buy a home, reach out to David Watermeier at 714-989-3252. Call or text anytime