Buydown mortgages, a strategy to lower interest rates, involve an upfront payment to reduce initial monthly mortgage costs. How a buydown mortgage works depends on its type: temporary buydowns offer short-term rate reductions (e.g., 2-1 buydown), while discount points (permanent buydowns) reduce the rate for the loan’s life. Temporary buydowns suit those expecting income increases or planning to refinance, often paid by sellers. Discount points, typically buyer-paid, benefit long-term homeowners by providing significant lifetime interest savings.
What’s the Difference Between a Mortgage Buydown and Discount Points?
Both buydowns and discount points reduce your mortgage interest rate, but they differ in several key ways:
- Rate Reduction Duration: Temporary buydowns reduce rates for 1-3 years; discount points reduce the rate for the entire loan term.
- Who Pays: Temporary buydowns are usually funded by sellers, builders, or lenders. Discount points are typically paid by the buyer at closing.
- Cost to Buyer: Temporary buydowns often involve no upfront buyer cost, while discount points cost 1% of the loan amount per point.
- Monthly Payment Relief: Temporary buydowns offer more significant short-term savings, while discount points deliver consistent long-term savings.
- Best Use Case: Temporary buydowns suit short-term homeowners and first-time buyers, while discount points are ideal for long-term homeowners and investors.
How Does a Mortgage Buydown Work?
A temporary buydown reduces your interest rate during the first few years of your loan. Common options include:
- 2-1 Buydown:
- Year 1: Rate reduced by 2%
- Year 2: Rate reduced by 1%
- Year 3+: Full interest rate applies
- 3-2-1 Buydown:
- Year 1: Rate reduced by 3%
- Year 2: Reduced by 2%
- Year 3: Reduced by 1%
- Year 4+: Full interest rate applies
Who Pays? The cost is often covered by sellers, builders, or lenders as part of negotiated closing concessions, not out-of-pocket by the buyer.
Best For: Buyers who expect an income increase, plan to refinance, or need lower payments in the first few years.
How Do Discount Points Work?
Discount points are fees paid by the buyer at closing to permanently reduce the mortgage rate. Each point typically costs 1% of the loan amount and lowers the interest rate by about 0.25%, though this can vary.
Example: On a $400,000 loan, paying 2 points (or $8,000) could reduce the interest rate from 7% to 6.5%, saving around $133 per month. The break-even point would be about five years, and over a 30-year term, the total interest savings could reach $48,000.
Best For: Buyers staying in the home long-term who want to reduce their total interest payments.
Which Is Better for Lowering My Mortgage Rate?
It depends on your timeline, financial goals, and available cash. Here are some questions to guide your decision:
- Are you staying less than 3 years? If yes, a temporary buydown is likely more cost-effective.
- Are you staying more than 5 years? If yes, discount points may offer better long-term value.
- Do you have the cash to pay points upfront? If yes, and you plan to stay long enough to break even, discount points are worth considering.
- Do you expect your income to increase or plan to refinance? If yes, a temporary buydown offers flexibility.
Side-by-Side Numerical Comparison
Scenario: $400,000 Loan | 30-Year Fixed | 7% Note Rate
- 2-1 Buydown:
- Year 1: Interest rate at 5%, monthly payment $2,147, monthly savings $514
- Year 2: Interest rate at 6%, monthly payment $2,398, monthly savings $263
- Year 3+: Interest rate at 7%, monthly payment $2,661
- Total savings over 2 years: approximately $9,300
- Buyer cost: $0 (typically paid by seller or builder)
- Discount Points (2 Points):
- Cost: $8,000
- New interest rate: 6.5%
- Monthly payment: $2,528
- Monthly savings: $133
- Break-even period: ~5 years
- Lifetime interest savings (30 years): approximately $48,000
Real-Life Examples
- First-Time Buyer (Short-Term): Samantha, a new homeowner with limited savings, uses a seller-paid 2-1 buydown to ease into her mortgage with lower early payments.
- Investor (Long-Term): John, buying a rental property for long-term cash flow, pays 2 discount points to lock in a lower rate and improve ROI.
- Builder Incentive: A builder offers a 3-2-1 buydown as a sales incentive. The buyer enjoys reduced payments for three years with no out-of-pocket cost.
Tips to Decide Strategically
- Negotiate Smart: In buyer-friendly markets, request seller concessions to fund a buydown instead of a price cut.
- Do the Math: Ask your lender to calculate the break-even point for discount points.
- Know Your Loan Type: Both options are available with many FHA, VA, and conventional loans.
- Watch the Market: If rates are expected to fall, temporary buydowns combined with refinancing may offer the most flexibility.
Final Takeaway:
Use temporary buydowns for short-term payment relief and flexibility, especially when someone else is covering the cost. Opt for discount points if you plan to stay in your home long enough to benefit from long-term savings and can afford the upfront expense. Always align your strategy with your financial situation, housing plans, and negotiating opportunities.
