Buy Down

A type of mortgage which requires the buyer to pay additional discount points or make a substantial down payment in return for a below market interest rate. Another form of a buy-down is one in which the seller offers 3-2-1 interest payment plans or pays closing costs such as the origination fee. During times of high interest rates buy-downs may induce buyers to purchase property they might otherwise not have purchased.

The seller pays an amount to the lender so the lender provides a lower rate and lower payments many times for an ARM. The seller may increase the sales price to cover the cost of the buy down.

When you make an up-front cash payment to reduce your monthly payments on a mortgage loan, it's called a buy down.

In a temporary buy down, your payments during the buy-down period are calculated at a lower interest rate than the actual rate on your loan, which makes the payments smaller.

For example, if you prepay $6,000, your rate might be reduced by a total of six percentage points, or one percent for each thousand dollars, spread over three years.

Instead of an 8% rate in the first year, it would be 5%. In the second year, it would be 6%, and in the third year 7%. On a $100,000 loan with a 30-year term, a reduction from 8% to 5% would reduce your monthly payments in the first year from about $734 to about $535.

The extra cash you prepaid would be used to make up the difference between the amounts due calculated at the lower rates and the actual cost of borrowing - in this case about $200 a month in the first year. Then, in the fourth year, you would begin to pay at the actual loan rate and your payments would increase.

In a permanent buy down, which is less common, your rate might be reduced by about 0.25% for each thousand dollars, or point, you prepaid, but the reduction would last for the life of the loan.

You might choose to do a buy down if you had extra cash at the time you were ready to buy, but a smaller income than would normally allow you to qualify to buy the home you want.

In most cases, lenders require that your housing costs be no more than 28% of your income. You might be able to reach that level if your initial payments were less at the time of purchase. In other cases, a home builder who is having trouble selling new properties might offer buy downs through a local lender to encourage reluctant buyers to take advantage of lower payments in the first years they own their homes.

A method of lowering the interest rate on a mortgage, either temporarily or for the entire term of the loan. Permanent Buydowns require the payment of points at closing, while Temporary Buydowns require the payment of a lump-sum interest payment up front which can subsidize the mortgage payments over the first one to three years of the loan.