Buying Down Interest Points

I sell Real Estate. I don’t sell Mortgages, but the two industries are clearly tied together. I also have a Finance degree, and I like numbers, so I tend to pay attention to what Mortgage Rates are doing. After all, they can affect both my BUYERS and SELLERS.

I often hear about our lending partners, and non-partners for that matter, discuss the option to buy down rates for clients. Essentially, for an up front fee, a lender can actually LOWER your mortgage rate before you close. Is this worth it? Is it beneficial? What is the best way to analyze this?

Let me explain, and use an example.

Recently, I had clients who are getting ready to close on a home; their first. Super excited, they had some incentives from the lender and the builder (they were buying new), and had essentially more credit than they could use. The Builder wouldn’t simply cut them a check for the difference, so they asked me what to do. I asked “Can the lender buy down the rate on your loan?”.

Later that night, I got an email, that basically said this… The rate could be lowered 1/8 of a point (Mortgages are measured in 1/8 point scales, which is equal to 0.125%. The buy down would for that 1/8 point would be a bit over $1,100, but the credit that was owed to them, the total out of pocket for them would be ABOUT $450 or so to go down 1/8 of a point. They asked if it was worth it.

Using some very simple and easy calculations, I ran the numbers for them and basically told them that at the rate of the mortgage, and the total loan amount, the savings of the 1/8 point would be about $23/mo. Not a lot, but not terrible. I then told them that for the out of pocket funds, it would basically take them 21 months to break even on this investment of buying down the loan. I simply asked if they felt they would be in the home longer than two years. The answer was “YES” so the decision was made to buy the point down.

But what if they didn’t have the extra credit. Would the full buy down, about $1,100, be worth it for 1/8 of a point? Using the same math, the break even in that regard would have been 47+ months, not 21 months. They would have to make sure they were living in the home for a full 4 years, with NO refinance, etc, for it to be worth the extra buy down. While that is still a pretty low period of time, this doesn’t take into account time value of money, etc, or whether or not that extra $1,100 could be used elsewhere… after all, they are first time homeowners, and will need furniture, etc.

So every case is different. For them, to either essentially lose that extra credit they weren’t allowed and buy down the loan for only about $400+ was a no brainer for them. Would it make sense to spend the $1,100 to do it? Again, everyone is different, but there are always options.

This also brings up another point, regarding loans. The above example was a loan for close to $300,000 - which happens to be the median sales price for homes here in Las Vegas. Many of our clients are getting loans in this range. Obviously, larger loans will be a larger saving than $23/mo on 1/8 of a point, and smaller loans will be less than a $23/mo savings. But we are seeing many clients “SHOP” mortgages now more than any time in the past 5 years. We are seeing some clients literally try and change mortgage providers in the MIDDLE of a transaction, because they ‘shopped’ and found a better rate. Often, it’s by 1/8 of a point. Yet, they have to start the transaction OVER, ask for an extension, hope it’s granted, and sometimes even pay another appraisal fee ($400-$600) in order to save 1/8 of a point.

Is THAT worth it? Is it worth jeopardizing a deal with a proven lender over starting over, paying more for another appraisal to MAYBE save $20/mo? Again, everyone is different, but in my mind, the risk/reward on situations like this is pretty high. The reward is having a 2-3 year window to even break even on the price difference, as we have described above, and the downside is potentially not getting a deal closed on time, and losing out on the home itself.

Would you want to risk a home purchase to save the equivalent of 4-5 cups of Starbucks Coffee per month? Let me know your thoughts below!