Seller buy-downs

The next topic is seller buy-downs.

So what that means is that the --

seller pays the lender something

in order to lower the interest rate
on the mortgage.

So let's say the initial interest rate
would have been 6.0%,

and the seller would like to let
the borrower get an interest rate of

5.75%.

So what the seller might do
is pay the lender upfront,

typically at about a four-to-one ratio.

So that would mean, --

let's say on 100,000 dollar loan, --

you would have to pay; to get
to lower the rate by a quarter-point;

you'd have to pay 2%.

So the seller would --

So this might be the builder or,

in some market situations, it could be --

the home seller.

Conceivably, could even be a real estate
agent trying to make the sale.

So you pay the lender
2,000 dollars upfront to,

instead of charging
an interest rate of 6%,

to charge an interest rate of 5.75%.

Now the ratio between
the reduction in the interest rate

and the initial payment is known
as the buy down ratio,

and we'll talk --

much later about how that gets computed.

I've just put in 4.

There's nothing magic about 4.

It's really actually
a pretty complex calculation

what that buy down ratio will be.

Okay, so what that means;

when the seller buys down
the mortgage is that the --

price of the home is inflated
by this 2,000 dollar figure.

That is, the seller is, in some sense,
getting 2,000 dollars less

than they would have otherwise.

So for a pure market transaction
with a market interest rate of 6%,

the price would actually be
2,000 dollars lower.

So if you're a borrower
and you buy a house,

and you pay 110,000
but you've got a buy down,

what that means is you really got --

if you could if you want to turn around
and sell the house without in turn

buying down the next seller's mortgage,

you'd have to get only 108,000.

So you start out having
overpaid for the house.

So what the by down does is

it reduces the borrower's equity, --

because the actual value of the house,
the market value of the house,

comes below the initial price.

So that's just another thing
to stir in the pot.

And remember the reason that
these sorts of things occur,

these buy-downs, is that you're trying
to do anything possible

to reduce the buyer's monthly payment,

because those initial monthly payments
tend to be high

relative to borrower's income.

Remember, if there's any inflation,

the borrower's income will go up over time
and so the burden of the payment falls,

and so the challenge is to lower
the burden of payment initially.

And that's why buy-downs get done.