Most buyers focus on the purchase price of a home.  Of course, so do most sellers.  

In most cases, the buyer’s focus on price is tied to how much the mortgage will cost each month. 

For many sellers, it’s a point of pride and sometimes, appeasing neighbors, when they “get their price.”  

If, as a buyer, you can serve your needs while helping the seller meet theirs, you are far more likely to have a positive transaction.  So, what if there were a way for you to have a lower mortgage payment AND still give the sellers what they want? 

There is and it’s called an “interest rate buy down.”  Here’s how it works: 

Rather than offer a lower purchase price, the buyer negotiates for the seller to pay his lender a fee to reduce the interest rate on the loan.  This reduction in the interest rate is referred to as a “buy down” and will often net the buyer more money in his/her pocket than if s/he had agreed to a lower purchase price. 

Let’s assume: 

  • The asking price on the house is $200,000 
  • The buyer is using fixed rate, 30 year, 100% financing, meaning the entire purchase price will be financed at a fixed interest rate for a period of 30 years.
  • The interest rate 4.5% 
  • The lender will charge one point (equal to 1% of the loan amount) for each reduction 1/4% reduction in the interest rate.  In this case, 1% equals $2,000.
  • Two points (2% of the loan amount) equals $4,000 and will reduce the interest rate from 4.5% to 4%.

Which would be a better deal for the buyer? 

  1. Ask the seller to reduce the price by $4,000 
  2. Ask the seller to pay $4,000 to buy down the buyer’s interest rate 

Let’s do the math. 

Monthly mortgage payment on $200,000 (principle and interest only) 

at 4.5% = $1,013 

at 4%    = $   955 

 

That’s a difference of $58 p/month.  If you divide the cost of the buy down by the monthly savings ($4,000 / $58), you will see it would take 69 months or 5.75 years to recoup the expense of the buy down. 

So, if the buyers expect to stay in the home less than 5.75 years, it would not make sense to do the buy down.  The better move would be to negotiate $4,000 off the asking price.

If the buyers anticipate staying in the home longer than that, they would save $58 each month going forward by taking advantage of the buy down.  If they stayed 10 years the savings would be $3,882.  Over the course of 30 years, they’d save $16,878!

In situations where the sellers are holding firm on their asking price but may be willing to make other concessions, this strategy can yield a positive result even if the buyer plans to move in less time, since the buyer isn’t paying the points and would have been unlikely to get a price reduction.

 

NOTE: The numbers above are for illustrative purposes only and may be different than what your lender offers.  Ask your lender for current rates and fees for buy downs.