In most real estate markets throughout the country, sellers are trying to cope with a slower moving market burdened with an over supply of competing homes for sale and weak buyer demand. Buyers are struggling with rising mortgage interest rates, tougher loan underwriting qualifying standards, high prices and low affordability. Real estate investors want positive monthly rental income cash flow and a hedge against a softening rental market in the future.
- A mortgage interest rate “buy-down” allows the seller to expand the pool of qualified buyers and real estate investors.
- The mortgage interest rate buy-down is a seller strategy with multiple options to maintain the seller’s price position
- The property is offered for sale at the full asking price with a seller credit to discount the mortgage interest rate or a discounted price without a seller credit to discount the mortgage interest rate
- It’s a “win-win” for both the buyer and seller
- The seller can deduct the buy down credit as a selling cost expense
- The buyer receives a 1098 form from the lender and a tax deduction for the buy down credit – “points” paid for the new loan to purchase the property
- Higher sales price maintains neighborhood property values
- The discounted mortgage interest rate helps to ensure the buyer will qualify for the loan
- The buy-down empowers the seller to compete with new home builders offering substantial buyer incentives
- The lower monthly loan payment increases the potential for positive rental cash flow for real estate investors
Why Buyers and Sellers are stuck:
In a slow real estate market, sellers usually experience long protracted marketing time-lines to find a qualified buyer. An over supply of competing homes for sale leaves the seller with few options except to make consistent and substantial downward asking price adjustments until the property sells. Investors are reluctant to buy income properties with negative monthly rental cash flow. Buyers cannot qualify for financing to move up into a larger home or move to a more desirable location. Buyers relocating from a lower cost area into a higher priced market must make a major lifestyle set back to buy a smaller home in a lesser location.
The process to solve the problem:
Sellers can align themselves with a reputable lender to find the best mortgage interest rate buy down program and integrate the buy-down with their marketing and pricing strategies Buyers can obtain a loan pre-approval with a reputable lender using a mortgage interest rate buy down program to increase their purchasing power.
How does mortgage interest rate buy-down program work?
The seller uses a credit from the proceeds of the property sale to pay additional loan points on the buyer’s loan. The additional loan points will “buy-down” the mortgage interest rate. The discounted mortgage interest rate applied against the same loan amount will reduce the monthly loan payment. So, there is no “out-of-pocket” cost to the seller. The credit paid to the buyer’s lender is a paper transfer at the close of escrow. The buy-down fee is a debit from the seller’s proceeds of the property sale.
Review the Example and the type of loan used – The five-year interest-only loan.
Example:$644,000 sales price with the Buyer purchasing with 20%down:
Down payment 20% $128,800
Loan amount 80% $515,200
Rate/payment 6.375% $2,737 per month
$644,000 sales price with Seller credit of $10,000 applied to interest rate buy down:Down payment 20% $128,800
Loan amount 80% $515,200
Rate/Payment 5.5% $2,361 per month**This results in a monthly payment reduction of $376.
Reduce sales price by $10,000 to $634,000 with the Buyer purchasing with 20% down:Down payment 20% $126,800
Loan amount 80% $507,200
Rate/Payment 6.375% $2,694 per month*** Your buyer saved only $43 per month.In order to achieve the same payment of $2,361 per month by using a price reduction you would have to reduce the sales price by $88,750! (see example below)
Reduce sales price by $88,750 to $555,250:
Down payment 20% $111,050
Loan amount 80% $444,200
Rate/ Payment 6.375% $2,361 per month
While a $10,000 sales price reduction is reasonable, an $88,750 sales price reduction is not. The loan interest rate buy down credit is a win/win for the buyer and seller.
Review Option I – Compare the difference in the interest rate and monthly payment between the Example and Option 1
How much will the buyer save each month using the buy-down loan?
$376 per month…multiply this monthly savings by 60 months and the buyer saves over $22,560 in five years.If the buyer decides to pay a lower price instead of taking advantage of the buy-down interest rate loan- how much does the buyer save each month if the seller lowers the purchase price by a sum equivalent to the 3% credit, in this case, $10,000?
Review Option II -The buyer saves $43 per month or $2,580 over five years.The buyer can pocket an additional $19,980 if the buyer chooses to pay the full asking price with the mortgage rate buy-down loan.
How much would the seller have to lower the asking price to achieve the same discounted monthly loan payment and the borrower financing 80% of the purchase price?
The seller would have to lower the asking price by $88,750 to achieve the same payment using an 80% loan to value ratio.(Review the “sales price reduction” example)The seller is more than likely to be unable or willing to make such a large price concession.
Why does the buyer receive a tax credit for the buy-down fees paid by the seller?
The lender is required to issue a 1098 form to the borrower for points paid on the purchase loan. The seller is not the lender’s customer. Therefore, the buyer receives a significant tax deduction of which could make the property purchase even more attractive.
How do lenders benefit from these buy-down loans?
- It is easier for a buyer to qualify under a discounted loan interest rate and the bank receives upfront “pre-paid” profit from the additional points paid on the loan.
- The discounted interest rate can make it easier to put a second loan behind the discounted first loan and therefore, the buyer can use a smaller down payment to purchase the property – like an 80-10-10 loan.
- The discounted monthly payment can offset additional monthly association fees for buyers purchasing a condominium.
Is it possible to buy down an adjustable rate loan?
The interest rate index and margin are added together to create the “note rate”. The buy-down of the margin will lower the note rate and, therefore, the related monthly mortgage payment. The benefits of a margin buy-down in a rising interest rate environment include lower monthly payment increases. Is it possible to buy-down the interest rate in a loan refinance? The buy-down fee (points) in a refinance is built-in by obtaining a larger loan amount above the existing loan amount. You can reduce the monthly mortgage payment through a buy-down refinance loan. Buying down the interest rate on a new first loan may enable the buyer to qualify for “piggyback” second loan financing to minimize the buyer’s down payment requirement. A lower monthly loan payment on the discounted first loan leaves qualifying room for the buyer’s debt-to-income ratio for the monthly payment on a second loan. Also, a lower monthly loan payment leaves qualifying room for a buyer’s debt-to-income ratio to pay monthly condo association fees Here is a strategy to enable buyers to find sellers willing to pay the buy-down loan fees….
- Team up with a Realtor to search for properties listed on the MLS for at least 30 to 45 days
- Look for properties that are vacant and are still listed at the original asking price
- Occupied properties are OK, too
- Ask your lender to prepare a loan interest rate “buy-down” outline like the handout for this conference call
- Draft a full price purchase offer with your Realtor
- Ask your Realtor to contact the seller’s agent and make it a requirement that your Realtor meet with the seller and the seller’s Realtor in person or on a 3-way conference call including the seller’s agent to present your offer
- Ask your lender to be on “stand-by” to answer any questions that may come up during the presentation of your offer