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Today’s Mortgage Definition is: FHA 2/1 Buydown

FHA 2/1 Buydown — A Simple Definition:

An FHA  2/1 buydown is an option when getting an FHA loan where you can “buy down” the interest rate for a period of 2 years by putting a lump sum of money into a buydown account that will supplement the payment schedule on the loan for 2 years.  The payment the borrower will pay in the first year of the loan will be calculated on an interest rate that is 2 percent lower than the “note rate”.  In the second year of the loan, the payment that the borrower will make is calculated on an interest rate that is 1% lower than the note rate.  After the first two years have passed, the remaining 28 years of payments are calculated at the note rate.

Although the 2/1 buydown isn’t widely used, it can be a very useful financial tool for people who expect their income to increase after a brief period and want to stretch a little bit to get into a larger/nicer home.  I personally had a 2/1 buydown for my first condo that we bought in college where we expected to be able to “graduate and get real jobs” about 2 years after we initially bought the condo.

FHA 2/1 Buydown — An Expanded Definition:

FHA 2/1 buydowns are a fairly small percentage of the overall number of FHA loans done and while it used to be true that you could qualify at the reduced interest rate, this is no longer the case.  When getting an FHA loan, if  you want to participate in the 2/1 buydown program you must qualify at the note rate that will be on the loan.

The general criteria that must be present when doing an FHA 2/1 buydown include:

  • The mortgage must be a purchase-money mortgage, not a refinance of an existing mortgage.
  • Buydown funds may come from the seller, lender, borrower or other party.  Funds from the seller or any other interested third party are considered seller contributions and must be included in the six percent limit on seller contributions.
  • The mortgage must be a fixed-rate loan on an owner-occupied residence.
  • The buydown must not result in a reduction of more than two percentage points below the interest rate on the note.
  • The buydown must not result in more than a one percentage point annual decrease in the interest rate. The borrower’s payment may only change once per year.

In all honesty, I don’t entirely know why there aren’t more FHA 2/1 buydowns done in the current housing downturn.  When done correctly, they can be a great tool for first time home buyers to stretch a little bit to get into a home and leave a little bit of money left over each month to help fix the place up.

Will FHA 2/1 buydown accounts start to gain momentum?

Only if people know about them.

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