The Federal Reserve has kept interest rates low for several years now, which is great news for homebuyers. However, now that the Fed has raised its target rate more than once this year, mortgage rates have started to climb as well.
This means that if you want to lock in a low rate right now, you will need to act fast. Fortunately, there are still some ways to get a good deal on your mortgage payment — even if rates are rising. In this article, we take a look at two alternatives: Adjustable-Rate Mortgages (ARMs) and Buydown Mortgage.
What Are Your Options?
1. Adjustable-Rate Mortgages (ARMs)
An adjustable-rate mortgage (ARM) allows you to pay a lower interest rate during a specific period, typically 5 or 7 years. After that period ends, the interest rate will change based on market conditions and will be reset periodically thereafter. The initial interest rate is typically lower than a traditional fixed-rate mortgage. However, once the introductory period ends, your monthly payment may increase if interest rates go up.
An ARM works well for people who expect their income or other financial circumstances to change over time. It also allows you to get lower payments initially so that you can afford a larger loan amount and still have enough money left over for other expenses like insurance premiums or taxes on your new property.
2. Buydown Mortgage
A buydown is another way to save money on your new home purchase by helping pay some of its principal balance before it even closes escrow. It is essentially a prepayment option that allows you to pay off part of your loan early, which lowers the amount of interest you owe for the first few years of your loan.
The result is that the buyer can purchase a larger home than they otherwise would have been able to buy with the same monthly payment.
There are two common structures lenders use for a mortgage buydown.
A 3-2-1 buydown allows the buyer to obtain a mortgage with a lower interest rate than that available to buyers with standard mortgages. The buyer’s payments are lowered by 3% in the first year, 2% in the second year, and 1% in the third year; thereafter, they max out at the rate noted on the contract.
A 2-1 buydown, like a 3-2-1 buydown, is structured the same way. However, its discount is only available for two years instead of three. To illustrate, your mortgage would start with a 2% interest rate reduction for one year, then a 1% rate discount for the next year. Your loan’s actual percentage rate would take effect after that.
High interest rates do not have to be a deterrent for consumers looking to purchase a home. Before you get caught up in the hype, it’s important that you understand your mortgage options. If you are truly facing limited financing options, consider talking to your lender about an adjustable-rate mortgage and/or a buydown. Both of these products give home buyers breathing room with their high interest rates.
For more information contact:
George A. Tallabas III