Understanding Mortgage Rate Buydowns
May 03, 2023
During your homebuying journey, you most likely have come across the phrase “mortgage rate buydown.” However, you may not be familiar with this term or what it can mean for you. In this blog, we will break down what a mortgage rate buydown is and what it can do for you on your way to purchasing a new home.
What is a Mortgage Rate Buydown?
Put simply, a mortgage rate buydown is a tool used to reduce the interest rate of your mortgage, which reduces your monthly mortgage payment. There is an upfront fee needed to achieve this discounted rate, which is commonly referred to as paying mortgage points to the lender. The cost of a mortgage point equals approximately one percent of the loan amount, so the fee is dependent on the loan. For example, to purchase a mortgage point on a $500,000 loan, $5,000 would be paid to a lender. Purchasing one point results in the interest rate of the mortgage decreasing by approximately 0.25%. At many of our neighborhoods, WPG may pay this buydown fee so our buyer can receive a better, lower interest rate from our preferred lender, US Bank.
Types of Mortgage Rate Buydowns
There are two types of mortgage rate buydowns: temporary and permanent. When you purchase mortgage points, you can choose to enjoy the new, lower rate for either the first few years or for the entire life of the loan.
Temporary Buydown Scenario: 7-1 ARM
One of the most popular temporary mortgage rate buydowns is a 7-1 adjustable rate mortgage (ARM), in which a homeowner pays a fixed interest rate for the first seven years. This allows a homeowner to have seven years of mortgage rate stability before expecting the first rate adjustment. In a 30-year mortgage loan term, this rate will begin adjusting annually for the next 23 years after the seventh year. If the homeowner decides to sell or refinance before that time, they may not see an adjustment and continue to enjoy a lower rate.
Here is an example of a 7-1 buydown on a 30-year term loan:
With a 5.0% interest rate, a $500,000 loan will result in a monthly payment of $2,684 for the first seven years*
After seven years, the loan will be adjusted annually, depending on the rate, index, and other adjustment terms you’re given. There is a maximum ceiling rate your loan can reach and will not go higher than.
Permanent Buydown Scenario: 30-Year Fixed
A permanent rate buydown on a 30-year fixed loan is extremely popular, and gives homebuyers added buying-power by lowering the interest rate over the entire length of the loan. Here is an example of a buyer looking to purchase a home using a $500,000 loan at a 30 year fixed rate:
With a 5.0% interest rate, the monthly payment is $2,684/month*
With a 6.5% interest rate, the monthly payment is $3,160/month*, an increase of $476/month and $171,360 over the length of the loan
To get back down to a $2,684/month* payment with a 6.5% interest rate, the loan amount would need to be decreased to $424,700. That’s a $75,300 difference in purchasing power.
In this scenario, if the buyer acquired the mortgage points required to reduce the interest rate from 6.5% to 5.0%, it would cost approximately $25,000. However, they would be receiving a $75,300 increase in purchasing power. For more information on interest rates, we recommend reading our previous blog.
Before deciding if a rate buydown works best for you, your financial situation and long-term home goals, it is important to consult with our preferred lender, US Bank.
Buying Down a Rate with WPG
WPG is currently offering homebuyers an interest rate reduction at a number of our neighborhoods, including University Park, Bald Eagle Point, Haven, and Mahogany at Belcourt Seven Oaks.
We hope this has strengthened your understanding of mortgage rate buydowns, and how you can use them to your advantage during your homebuying journey. Visit our website to browse through our available communities and contact a Sales Counselor to find out about our current incentives throughout our California and Idaho communities.
*Payment examples do not include taxes, HOA, or insurance. Payment examples are based on a $500,000 loan amount; 30 Year Fixed Conforming Rate of 6.50% (APR 6.57%), 30 Year Fixed Conforming Rate of 5.0% (APR 5.45%), and 7-1 ARM Rate of 5.0% (5.29%). Rates are based on time of publish and are subject to change without notice. There are no guarantees of these rate examples, as rates change daily.