Understanding Temporary Buydowns and Their Savings
A temporary buydown is a mortgage financing strategy where a portion of the initial interest payments is prepaid, effectively reducing the borrower's monthly payments for a specified period. This is often funded by the seller, builder, or a third party, making it an attractive incentive for homebuyers. Unlike a permanent rate buy-down, the interest rate is not permanently lowered; instead, the lender receives the full interest amount, but the borrower pays a reduced amount for the first few years of the loan.
How a Temporary Buydown Works
In a common 2-1 or 3-2-1 buydown structure, the borrower's interest rate is reduced for the first one, two, or three years of the loan term. For example, in a 3-2-1 buydown:
Year 1: The borrower pays an interest rate that is 3% lower than the original note rate.
Year 2: The borrower pays an interest rate that is 2% lower than the original note rate.
Year 3: The borrower pays an interest rate that is 1% lower than the original note rate.
Year 4 onwards: The borrower pays the full, original interest rate for the remaining term of the loan.
The funds to cover the difference between the actual interest paid by the borrower and the interest due to the lender (at the original rate) are typically held in an escrow account and disbursed monthly.
Calculating the Savings
The savings from a temporary buydown come from the reduced monthly payments during the buydown period. Our calculator helps you estimate these savings by comparing the total payments made by the borrower with and without the buydown for the specified period. The difference represents the total amount of reduced payments the borrower benefits from.
The Math Behind the Calculation:
The calculator computes the monthly payment for each scenario using the standard mortgage payment formula:
M = P [ i(1 + i)^n ] / [ (1 + i)^n – 1]
Where:
M = Monthly Payment
P = Principal Loan Amount
i = Monthly Interest Rate (Annual Rate / 12)
n = Total Number of Payments (Loan Term in Years * 12)
The calculator applies the reduced interest rates for the buydown years to calculate the borrower's actual monthly payments during those periods. It then sums up these reduced payments for the buydown duration. This sum is compared against what the borrower *would have paid* if they had made payments at the original interest rate for the same duration. The difference is the estimated savings.
When is a Temporary Buydown a Good Option?
For Buyers with Lower Initial Income: It can help borrowers qualify for a loan or manage expenses in the early years of homeownership, especially if they anticipate income increases.
To Offset Rising Costs: In a market with rising interest rates, a buydown can provide immediate relief, allowing buyers to lock in a lower rate for a crucial period.
As a Seller Incentive: It can be a powerful marketing tool for sellers or builders to attract buyers in competitive markets or during slower sales periods.
It's important to understand that the buydown period is temporary. After the buydown expires, the monthly payments will increase to reflect the original interest rate. Always factor this increase into your long-term financial planning.
function calculateMortgagePayment(principal, annualRate, termInYears) {
if (isNaN(principal) || isNaN(annualRate) || isNaN(termInYears) || principal <= 0 || termInYears <= 0) {
return 0;
}
var monthlyRate = annualRate / 100 / 12;
var numberOfPayments = termInYears * 12;
if (monthlyRate === 0) {
return principal / numberOfPayments;
}
var numerator = monthlyRate * Math.pow(1 + monthlyRate, numberOfPayments);
var denominator = Math.pow(1 + monthlyRate, numberOfPayments) – 1;
return principal * (numerator / denominator);
}
function calculateBuydown() {
var loanAmount = parseFloat(document.getElementById("loanAmount").value);
var originalInterestRate = parseFloat(document.getElementById("originalInterestRate").value);
var buydownPeriodYears = parseInt(document.getElementById("buydownPeriodYears").value);
var buydownPercentage1 = parseFloat(document.getElementById("buydownPercentage1").value);
var buydownPercentage2 = parseFloat(document.getElementById("buydownPercentage2").value);
var buydownPercentage3 = parseFloat(document.getElementById("buydownPercentage3").value);
// Assume a standard 30-year mortgage term for calculation purposes
var mortgageTermYears = 30;
if (isNaN(loanAmount) || isNaN(originalInterestRate) || isNaN(buydownPeriodYears) ||
loanAmount <= 0 || originalInterestRate < 0 || buydownPeriodYears < 0) {
document.getElementById("result-value").innerText = "Invalid input. Please check your numbers.";
return;
}
var totalPaymentsWithBuydown = 0;
var totalPaymentsWithoutBuydown = 0;
var currentYearRateReduction = 0;
var currentMonthRate = 0;
// Calculate payments without buydown for the buydown period
var originalMonthlyPayment = calculateMortgagePayment(loanAmount, originalInterestRate, mortgageTermYears);
totalPaymentsWithoutBuydown = originalMonthlyPayment * buydownPeriodYears * 12;
// Calculate payments with buydown
for (var year = 1; year <= buydownPeriodYears; year++) {
switch (year) {
case 1:
currentYearRateReduction = buydownPercentage1;
break;
case 2:
currentYearRateReduction = buydownPercentage2;
break;
case 3:
currentYearRateReduction = buydownPercentage3;
break;
default:
currentYearRateReduction = 0; // Should not happen if buydownPeriodYears is 1, 2, or 3
break;
}
var buydownInterestRate = originalInterestRate – currentYearRateReduction;
// Ensure rate doesn't go below zero
if (buydownInterestRate < 0) {
buydownInterestRate = 0;
}
var monthlyPaymentWithBuydown = calculateMortgagePayment(loanAmount, buydownInterestRate, mortgageTermYears);
totalPaymentsWithBuydown += monthlyPaymentWithBuydown * 12;
}
var totalSavings = totalPaymentsWithoutBuydown – totalPaymentsWithBuydown;
if (totalSavings < 0) {
totalSavings = 0; // Savings cannot be negative
}
document.getElementById("result-value").innerText = "$" + totalSavings.toFixed(2);
}