Today I’m posting tip #5 of a 10-part series on things you need to know before you start your house hunt.
TIP #5. Understanding Interest Rates
Interest rate options can come with pricing differences. Those differences are called “points”. A point is a fee charged by the lender, typically a percentage of the loan amount. Most buyers, when inquiring about rates, are looking for a rate quote at “par” pricing. This is the lowest interest rate at any given point-in-time, where the lender only charges 1% for the Origination Fee and there are no further “point” costs.
The rate on a real estate loan can be bought up or bought down based on investor or bank pricing over and above the 1% for the Origination Fee. For example: If a buyer does not have quite enough cash to close, the lender may agree to rebate the 1% Origination cost, by offering a slightly higher interest rate. This is acceptable to the lender since they expect to recoup the rebate over the life of the loan. In the same way, if a buyer wants a lower long-term rate, pricing from the lender can accommodate the rate buy-down through the charging of discount points. So that paying the lender a premium upfront, will result in a discounted note rate for the life of the loan.
Most buyers, especially first-time homebuyers, don’t buy the rate down for the long term. Sometimes, however, a seller will offer to credit the buyer up to 6% of the purchase price (FHA/VA limit) towards closing costs. This could potentially help by lowering the qualifying house payment. In this market most sellers are not willing to agree to such high closing credits. The exception can be found in new home communities, where a new home is move-in ready and a previous buyer “fell out”. In these cases some exceptional opportunities can be found!
Whether buying the rate down is something you weren’t initially planning to do, take some time to think through and calculate the benefits for your individual situation. If you are buying this home and planning to live there until it is paid off, then the investment of some extra cash upfront, for a lower rate over the life of the loan, would make sense. Additionally, these points are tax deductible in the year paid. But, since many folks really don’t plan on being in their home until it is paid off, keeping the extra cash in the bank could be more sensible. This is especially true for first-time homebuyers who can expect to have additional expenses in the first year of homeownership.
Not all lenders offer or allow permanent rate buy-downs. For instance, CalHFA already offers some of the lowest interest rates for first-time homebuyers, therefore paying additional points is not an option. Also, the one-half percent down-payment program, offered to any homebuyer who meets county income limits, has a set price with no option to buy the rate down.
If you are trying to determine if buying the rate down on your next home loan is the right option for you, contact me today. I can help you calculate the benefits for your individual situation, so you will feel confident you are making the right financial decision.
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Ingrid Pierson |
