How Much Does Buying Down Interest Rate Cost?
Buying down interest rate is a common strategy used by homeowners to reduce their monthly mortgage payments. It involves paying additional money upfront to the lender, which effectively lowers the interest rate on the loan. But how much does buying down interest rate cost, and is it worth the investment? Let’s delve into this topic to understand the implications and benefits of this financial decision.
The cost of buying down interest rate depends on several factors, including the loan amount, the initial interest rate, the number of points bought down, and the lender’s pricing. Generally, each point you buy down represents 1% of the loan amount. For instance, if you have a $200,000 mortgage, buying down one point would cost you $2,000.
The primary benefit of buying down interest rate is the reduction in monthly mortgage payments. By lowering the interest rate, you can significantly decrease the amount of money you pay in interest over the life of the loan. This can result in substantial savings, especially for long-term mortgages.
To calculate the cost of buying down interest rate, you can use the following formula:
Monthly Savings = (New Interest Rate – Old Interest Rate) Loan Amount / 12
For example, if you have a $200,000 mortgage with an interest rate of 5% and you buy down one point to a new rate of 4%, your monthly savings would be:
Monthly Savings = (0.04 – 0.05) 200,000 / 12 = $166.67
This means that by buying down one point, you would save approximately $2,000 annually on your mortgage payments.
However, it’s essential to consider the total cost of buying down interest rate. In the example above, buying down one point would cost you $2,000 upfront. To determine if this investment is worth it, you should compare the total cost of buying down the interest rate to the total savings you’ll receive over the life of the loan.
Let’s assume you have a 30-year mortgage. If you buy down one point, you would pay an additional $2,000 upfront. However, over the course of 30 years, you would save approximately $49,500 in interest payments. In this case, the investment in buying down interest rate would pay for itself in just over 4 years.
It’s important to note that buying down interest rate may not be the best option for everyone. If you plan to sell your home within a few years, the upfront cost of buying down the interest rate may not provide enough time to recoup the investment. Additionally, if you have limited funds for a down payment or closing costs, it may be more beneficial to use those funds for other purposes.
In conclusion, the cost of buying down interest rate varies depending on several factors, but it can result in significant savings over the life of the loan. To determine if buying down interest rate is worth the investment, compare the total cost to the total savings you’ll receive. If you plan to stay in your home for a long time and have the financial means to do so, buying down interest rate can be a wise financial decision.
