What is a 2/1 Buydown?  How does it work?

Buyers doing a 2/1 Mortgage BuydownAs this real estate market becomes a little more balanced between buyers and sellers, we all need to shift our focus on the elephant in the room:  High interest rates.  So what is a 2/1 buydown, and how does this not only help buyers, but also sellers in selling their house?

This is actually an amazing tool for sellers (as a home selling marketing plan) to offer buyers when selling their house.  You can take a look at the numbers below, to see how much it would cost a seller, and how much savings the buyers would realize.  It's actually quite astonishing just how much someone saves in the first and second year!

A 2/1 buydown is a type of mortgage financing arrangement where the interest rate on a home loan is temporarily reduced during the first two years of the loan term. This is achieved through a buydown agreement between the borrower, the lender, and sometimes a third-party entity.

Here's how a 2/1 buydown typically works:

1. **Initial Interest Rate Reduction (Year 1):** In the first year of the loan, the interest rate is reduced by 2 percentage points from what it would have been without the buydown. For example, if the standard interest rate would be 5%, the borrower would only pay 3% during the first year.
2. **Partial Interest Rate Reduction (Year 2):** In the second year of the loan, the interest rate is reduced by 1 percentage point. Using the same example, if the standard interest rate would be 5%, the borrower would pay 4% during the second year.
3. **Return to Standard Interest Rate (Year 3 and beyond):** Starting from the third year onward, the interest rate returns to the originally agreed-upon standard rate. In the example, this would be 5%.

The purpose of a buydown is often to make homeownership more affordable for borrowers in the initial years of the loan when they may be more financially stretched. It can be a useful strategy for those who expect their income to increase in the future, allowing them to better handle higher mortgage payments once the buydown period ends.

There are variations of buydown structures, such as 3/2 or 1/0, where the numbers represent the reduction in percentage points and the duration of the buydown period, respectively.  It's essential for borrowers to carefully review and understand the terms of a buydown agreement, including how payments will change after the buydown period ends, to ensure it aligns with their financial goals and circumstances.

Great, So How About an Example?

Let's take a $560,000 sales price for a home.
10% is a typical down payment for buyers, so it would be a $504,000 loan amount.
It would cost 2.5% of the loan amount, for a 2/1 buydown, which would be: $12,600.

So as a seller, if you would agree to provide a 2/1 buydown to a buyer "with an acceptable contract", it would be $12,600 off of the sales price (or your net proceeds).  This is another tool in your marketing arsenal to attract fantastic, qualifying buyersAnd as a buyer, these sellers are offering a fantastic way for you to get into a house at a time where interest rates are very high!  With this 2/1 option, it'll provide some interest relief over the next 2 years, with the goal of refinancing after the 2 years to a potentially lower interest rate.

How Much Would it Save in My Loan Payment?

To calculate the savings from a 2/1 buydown, we need to determine the interest paid during the first two years with the reduced rates and then compare it to the interest that would have been paid at the original rate.

Let's break it down:

Original Interest Rate: 7.5%
Loan Amount: $504,000

1. **Year 1 Interest (2% reduction):**
   - Original Interest for Year 1 = $504,000 * 7.5% = $37,800
   - Buydown Interest for Year 1 = $504,000 * 5.5% = $27,720

   Savings in Year 1 = $37,800 - $27,720 = $10,080

2. **Year 2 Interest (1% reduction):**
   - Original Interest for Year 2 = $504,000 * 7.5% = $37,800
   - Buydown Interest for Year 2 = $504,000 * 6.5% = $32,760

   Savings in Year 2 = $37,800 - $32,760 = $5,040

Total Savings over 2 Years = $10,080 + $5,040 = $15,120

So, with a 2/1 buydown on a $504,000 loan at 7.5%, the buyer would save $15,120 in interest payments during the first two years compared to a loan without the buydown. Keep in mind that this is a simplified calculation, and actual savings can vary based on the specifics of the loan agreement and the exact calculation methods used by the lender.

Mike Ciucci, Realtor

Mike Ciucci specializes in the Charleston SC real estate market.  He has been a Charleston realtor for over 18 years, focusing on quality and attention to detail his clients have come to expect.

Mike Ciucci
Carolina One Real Estate

Phone: 843.608.8378
Email: mike@buyingcharlestonrealestate.com


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