What is a 2-1 Buydown Loan and How Can it Help Homebuyers?

11.21.2022 | Category: Mortgage Basics

As inflation continues to cause challenges for would-be and current homebuyers, lenders are looking for new and inventive ways to help qualified borrowers get the keys to their dream home. 

One such option for homebuyers is a 2-1 buydown, which is a mortgage loan that offers a low-interest rate for the first year of the loan, a slightly adjusted rate for the second year, and the full rate for the third and later years. This option may make qualifying for a home mortgage loan with a lower rate easier. 

How Does a 2-1 Buydown Work?

Buydown loans are typically offered by lenders, homebuilders, or residential developers to help incentivize buyers who may be looking to reduce their interest rates or initial loan payment. With a 2-1 Buydown, the interest rate will increase from one year to the next until it’s at its permanent rate in year three. 

For example, if the average interest rate on 30-year mortgages is 5%, a homebuyer could get a mortgage that charged just 3% in the first year, then 4% in the second year, and 5% after that.*

*Assumptions: Loan Amount: $300,000 | Loan Purpose: Rate/Term Refinance or Purchase | Property Type: Single Family Residence | FICO: 780+ | Escrow Account Required: Yes, taxes & insurance

Rates and terms are subject to change. APR may vary. Not all borrowers qualify for all programs, must meet underwriting guidelines and are subject to credit review and approval. This does not constitute a commitment to lend. For mortgage loans other than fixed loans, it is possible that the borrower’s payment may increase substantially after consummation. The disclosed closing costs are estimates. Actual closing costs and the portion paid by Seller may vary. The information contained is subject to change without notice.

What are the Benefits and Potential Drawbacks of a 2-1 Buydown?

A 2-1 Buydown can help homebuyers qualify for a loan with a temporarily lower payment, allowing them to have more cash on hand for renovations or repairs. This is especially helpful for first-time home buyers who may feel priced out of the current market or might be looking to take advantage of the extra savings they will attain for the first two years. 

One aspect of a 2-1 Buydown to consider before applying for this type of loan is that the lower payment is in fact temporary and as a potential homebuyer, you should budget in anticipation of making the higher payments eventually. 

In addition, sometimes these loans can come with additional closing costs to help the lender recoup the lost interest earnings. While these are one-time fees, be sure to evaluate whether or not you will pay for those fees up front or over time with your lender and learn how these fees will impact your overall monthly payment. 

How Does a Homebuyer Qualify for a 2-1 Buydown

A 2-1 Buydown is a mortgage loan like many other loans and to qualify, requirements are typically similar to any other mortgage loan. For example, you will still need to seek pre-approval before making an offer on a home, you will need to show you can afford your monthly mortgage payment and you will need to disclose your financial information including your credit history, income and assets. You will also need to show that you have enough savings for the down-payment required and still have cash left for emergencies. 

Homebuyers can use a 2-1 Buydown on primary and secondary residencies, however, cash-out refinances are not eligible. Some states and lenders put limits and requirements on these types of loans as well, so be sure to work with a trusted real estate professional before applying for a 2-1 Buydown loan. 

If you’re interested in 2-1 Buydown loan, contact Mutual of Omaha. Our loan specialists can walk you through your financial options to find out if this little-known loan product is right for you.