The Skinner Team

Loan Options and Seller Concessions in Today’s Market

Are you ready to make a purchase, but unsure about the best route to go with the changing landscape of the real estate market and mortgage loan options? This month, I’d like to show you how to get creative with loan types and buydowns, and seller credits at closing to create a win-win all around! This is not a comprehensive list of all options available, but hopefully it gets your wheels turning on thinking outside the box.

#1 Buydown Loans
Every lender I’ve chatted with lately has noted that buydowns are a hot topic, and rightfully so. Buyers love the idea of sellers helping them purchase their home! There are two types of buydowns- temporary and permanent. A permanent buydown will lower the interest rate of the mortgage for the life of the mortgage, and isn’t treated as what lenders refer to as a buydown loan. Rather, a credit from the seller can be used to buy down the interest rate of a conventional loan for the life of the loan. I’ll touch more on seller credits/ concessions below.

A temporary rate buydown loan option means the amount of money the seller gives to the buyer at closing goes toward temporarily buying down the interest rate of the loan. You’ll most often see this as a 3-2-1 buydown or a 2-1 buydown.  In a 3-2-1, the borrower pays a lower interest rate over the first three years in return for additional capital (cash $$) at closing to the lender. The interest rate is reduced by 3% in the first year, 2% in the second year, and 1% in the third year. So, a 7% interest rate would be at 4% in the first year. After the buydown period is over,  the full interest rate is charged for the remainder of the mortgage. In a 2-1 buydown, it is a 2% reduction in the first year, 1% in the second, then full interest in the third and beyond. Borrowers look into this loan option hoping to be able to refinance by the time the buydown ends. Using a 2-1 product, a loan amount of $650,000 at 7% interest would look something like this:
Year 1: $3,489
Year 2: $3,897
Year 3: $4,324

Between year 1 and year 3, that’s a monthly difference of $835, so you can see why so many borrowers are intrigued by this! Keep in mind, in the example above, the cash contribution at closing would have to be about $15,150. Depending on what geographic market you’re buying in, that could be too much to ask for from a Seller, so approach this with guidance from your real estate professional as well. If you can make this work, this might be the year to do it if you’re willing to accept the risk. Secure a mortgage with a rate that’s temporarily lower, and hope to refinance in the next few years before you’re back up to the full interest rate. Keep in mind, however, if interest rates happen to stay the same or even climb over time, you’ll be locked in at the high rate once the temporary buydown ends. One of our local lenders mentioned that borrowers must be aware that they might need to prepare to feel  “payment shock” when the market rate interest hits after the first few years of having much lower monthly payments. 

#2 ARM (Adjustable Rate Mortgage)
Just as above, borrowers may look to adjustable rate mortgages when they’re hoping to be able to refinance in the near-ish future. During the introductory period of ARMs, interest rates are usually (a good amount) lower than a conventional fixed-interest mortgage, meaning lower monthly payments. After a fixed period, changing interest rates affect payments. If interest rates go down, this option can be great. If they go up, however, you could be looking at it costing an ARM and a leg! So, how do ARMs work?

Whether you see a 10/1 or 10/6, a 5/1 or 7/6 ARM, one of those numbers represents the fixed period, and the other the adjustment period. The first number represents the number of years in which the initial interest rate will stay the same. In a 10/1, it would be a fixed interest rate for 10 years. The second number comes into play when the fixed rate ends. A “1” means that interest rates will be reevaluated every year for the remaining life of the loan. A “6” means every six months. So, if you get a 20-year 10/1 ARM, that means you get the low, fixed rate for the first 10 years of the loan. After that, your rate could go up or down annually for the remaining 15 years. (If you had a 20-year 10/6 ARM, your interest rate could change twice per year after the fixed period!)

There are borrower protections on rate caps and how interest rate changes are governed, so buyers need not worry about being “gouged”, but this loan does carry a certain amount of risk. If, for some reason, you choose a 5/1 ARM, and interest rates keep rising, after 5 years you are at the mercy of the annual interest rate change, for better or worse. ARMs can be great, however, and worth the risk. Analyze your personal financial situation with your lender to decide if an adjustable rate could be the right move for you.

#3 Seller Credits / Concessions
I mentioned seller credits and concessions above. A credit at closing from seller to buyer can definitely create a win-win for all involved! The benefits here can best be illustrated through real life scenarios:

A. Seller credit vs. price reduction
Say you are looking at the perfect home, and it’s $900,000. It’s a stretch, but you’re qualified for it and can make it work. The home has been sitting on the market for a while, so you could offer a bit lower. Instead of offering a lower price (depending on how much lower you’d like), consider asking for a seller credit. The seller could actually end up netting more giving you a credit than if they take a price reduction. Say seller closing costs are something like 5.5%. We are looking at a $900,000 purchase price with an $18,000 credit versus a price reduction to $875,000 with no credit.

$900,000 price  – $49,500 closing costs – $18,000 credit = $832,500 net proceeds
$875,000 price – $48,125 closing costs = $826,875

The seller would net $5,625 more in the first example. If you were competing with another offer, that might help you win! You could then potentially use that 18,000 credit toward some or all of your closing costs, which means more to keep in your pocket for moving or furnishing (or saving!).  

B. Seller credit for loan buydown
Under “Buydown Loans”, I mentioned seller concessions to buy down your loan rate. Continuing with the example above: You purchase your home for $900,000 and receive $18,000 from the seller at closing. With 20% down, you have a mortgage of $720,000 with a 6.875% interest rate. To buy down this loan, each point will cost you 1% of the loan amount, or $7,200. Each point will reduce your loan by about .25%. So, with the $18,000 seller credit, you can buy down your loan rate 2 full points using $14,400 of the seller credit. The seller contribution takes your interest rate down to 6.375%, reducing your monthly payments by $238 for the life of your loan (from $4,730 to $4,492). You’re left with $3,600 of the $18,000 credit to use or save as you wish, and have a monthly payment that’s a bit more manageable. 

C. Seller credit to cover closing costs and pre-paids
As you may or may not know, many of the properties here in the mountains have monthly HOA dues, and some areas have transfer taxes and resort fees. Many HOAs require 3 months of dues paid up front at closing. Transfer taxes range between 1-2% of the total purchase price, and resort fees can be about the same, resulting in some serious capital due from the buyer at closing. In today’s market, it can certainly be appropriate to ask the seller to pay some or all of the transfer tax, or even a year of HOA dues. On a $900,000 home, that could be $18,000 for a 2%  transfer tax. And, if HOA dues are about $500/ month, that’s $6,000! If you are financing your purchase, be sure to confirm with your lender the maximum seller contribution. Use seller credits to reduce the cash you need to close, and benefit all parties involved.

#4 Portfolio Loans with Special Rates
When you’re selecting a local lender, be sure to ask about portfolio loans. Banks that keep their loans in-house after closing, rather than selling on the secondary market, can often offer special rates that are lower than market rate. Some loan products even offer lower rates for certain occupations like doctors and first responders. 

Thank you for sticking with me, you made it through! In a shifting market and lending landscape, it is important to build up a great support team around you, and we hope you’ll let us be a part of that. We’d love to hear from you if you have questions about anything I mentioned above, or you’d like a list of great local lenders. 

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