An interest rate buydown is a strategy used in real estate transactions where a portion of the borrower's upfront costs are used to reduce the interest rate on a mortgage for a specified period. This is typically paid for by the seller or builder to make the home more affordable for the buyer in the initial years of the loan. It's a powerful tool for buyers who anticipate their income increasing over time or expect interest rates to fall in the future, allowing them to refinance.
How Does a Buydown Work?
A buydown involves paying a lump sum to the lender to "buy down" the interest rate. The most common types are:
2-1 Buydown: The interest rate is reduced by 2% in the first year and 1% in the second year, with the rate reverting to the original agreed-upon rate from the third year onwards.
1-0 Buydown: The interest rate is reduced by 1% in the first year and reverts to the original rate from the second year onwards.
Our calculator focuses on a general buydown scenario where you specify the reduced rate and the duration of this reduction.
The Math Behind the Savings
To calculate the savings, we first need to determine the monthly principal and interest (P&I) payment for both the original rate and the buydown rate. The standard mortgage payment formula is:
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)
Steps our calculator performs:
Calculate Original Monthly P&I: Using the provided Loan Amount, Original Interest Rate, and Loan Term, it computes the monthly payment if the buydown wasn't applied.
Calculate Buydown Monthly P&I: Using the Loan Amount, Buydown Rate, and Loan Term, it computes the monthly payment during the buydown period.
Determine Monthly Savings: The difference between the Original Monthly P&I and the Buydown Monthly P&I gives the monthly savings.
Calculate Total Buydown Savings: Multiply the Monthly Savings by the number of months in the Buydown Period.
Calculate Payment Impact: This is the difference between the Original Monthly P&I and the Buydown Monthly P&I, showing the immediate reduction in payment.
When is a Buydown a Good Idea?
A buydown can be advantageous in several situations:
To Improve Affordability: Lower initial payments can help buyers qualify for a larger loan or simply make the monthly housing cost more manageable in the early years.
Anticipating Income Growth: If you expect your income to increase significantly in the coming years, the temporary lower payments can be a stepping stone.
Expecting Future Rate Drops: If you believe interest rates will fall, you can take advantage of the buydown now and refinance to a lower permanent rate later.
Seller Incentives: When sellers or builders offer buydowns as an incentive, it can significantly reduce the buyer's initial financial burden.
It's crucial to remember that the interest rate will eventually increase to the original note rate. Buyers should ensure they can comfortably afford the higher payments or plan to refinance before the buydown period ends.
function calculateMortgagePayment(principal, annualRate, termYears) {
var monthlyRate = var.parseFloat(annualRate) / 100 / 12;
var numberOfPayments = var.parseInt(termYears) * 12;
if (monthlyRate <= 0 || numberOfPayments <= 0) {
return 0; // Avoid division by zero or invalid calculations
}
var numerator = monthlyRate * Math.pow(1 + monthlyRate, numberOfPayments);
var denominator = Math.pow(1 + monthlyRate, numberOfPayments) – 1;
var payment = principal * (numerator / denominator);
return payment;
}
function formatCurrency(amount) {
return "$" + amount.toFixed(2).replace(/\d(?=(\d{3})+\.)/g, '$&,');
}
function calculateBuydown() {
var loanAmount = var.parseFloat(document.getElementById("loanAmount").value);
var originalInterestRate = var.parseFloat(document.getElementById("originalInterestRate").value);
var buydownRate = var.parseFloat(document.getElementById("buydownRate").value);
var loanTermYears = var.parseInt(document.getElementById("loanTermYears").value);
var buydownPeriodMonths = var.parseInt(document.getElementById("buydownPeriodMonths").value);
// Input validation
if (isNaN(loanAmount) || loanAmount <= 0 ||
isNaN(originalInterestRate) || originalInterestRate <= 0 ||
isNaN(buydownRate) || buydownRate <= 0 ||
isNaN(loanTermYears) || loanTermYears <= 0 ||
isNaN(buydownPeriodMonths) || buydownPeriodMonths = originalInterestRate) {
alert("Buydown rate must be lower than the original interest rate.");
document.getElementById("monthlySavings").innerText = "-";
document.getElementById("totalSavings").innerText = "-";
document.getElementById("paymentImpact").innerText = "-";
return;
}
if (buydownPeriodMonths > loanTermYears * 12) {
alert("Buydown period cannot exceed the total loan term.");
document.getElementById("monthlySavings").innerText = "-";
document.getElementById("totalSavings").innerText = "-";
document.getElementById("paymentImpact").innerText = "-";
return;
}
var originalMonthlyPayment = calculateMortgagePayment(loanAmount, originalInterestRate, loanTermYears);
var buydownMonthlyPayment = calculateMortgagePayment(loanAmount, buydownRate, loanTermYears);
var monthlySavings = originalMonthlyPayment – buydownMonthlyPayment;
var totalSavings = monthlySavings * buydownPeriodMonths;
var paymentImpact = monthlySavings; // This is the immediate reduction in payment
document.getElementById("monthlySavings").innerText = formatCurrency(monthlySavings);
document.getElementById("totalSavings").innerText = formatCurrency(totalSavings);
document.getElementById("paymentImpact").innerText = formatCurrency(paymentImpact);
}