A buy-down is a financing incentive where the seller pays an upfront fee to the lender. This fee is used to temporarily or permanently lower the buyer’s mortgage interest rate for the first few years of the loan. A lower rate means a lower monthly payment for the buyer.
The most common and powerful type is the “2-1 Buydown.”
How a Seller-Funded 2-1 Buydown Works
In a 2-1 Buydown, the buyer’s interest rate is reduced by:
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2% in the first year of the mortgage.
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1% in the second year of the mortgage.
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It then returns to the standard, note rate for the remaining life of the loan starting in year three.
The Seller’s Role: The seller provides a lump sum of cash at closing, which is placed in an escrow account with the lender. This account is used to supplement the buyer’s mortgage payments for the first two years, covering the difference between the reduced payment and the full payment.
Step-by-Step Example:
Let’s assume a buyer is getting a $400,000 loan at a 30-year fixed rate of 7%.
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Full Payment (Year 3+): At 7%, the principal & interest payment is $2,661.
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Year 1 Rate (7% – 2% = 5%): The payment drops to $2,147.
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Year 2 Rate (7% – 1% = 6%): The payment rises to $2,398.
How the Seller Pays for It:
The seller must pay an upfront fee to cover the “missing” interest for the first two years. The lender calculates the total cost by adding up the payment differences.
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Year 1 Cost: ($2,661 – $2,147) x 12 months = $6,168
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Year 2 Cost: ($2,661 – $2,398) x 12 months = $3,156
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Total Seller Cost: $6,168 + $3,156 = $9,324
The seller would provide this ~$9,324 at closing to fund the buydown. This is a one-time expense for the seller, just like paying for closing costs.