Your Mortgage: Should you, or shouldn’t you?

Mike Miles

By Mike Miles

The question above pertains to the idea of buying down your interest rate. Is it a good idea or is it not?

Most buyers don’t like the idea. This is understandable. It can get expensive. However, most buyers reject the idea much like lots of people reject the salesperson at a clothing store … “No, I don’t need help. I’m just looking.” But in reality, many of us need LOTS of help with our clothes.

Buying down a rate can get expensive, which is the reason for such a high rejection rate. After all, buyers are already spending a lot of money on a house, moving expenses, and inspections in addition to things like furniture and decorations for their new home. Paying an extra expense associated with the mortgage can be an automatic “no thanks.” In many cases, the added expense isn’t worth it but it’s still worth a look.

First, let’s discuss the math. Mortgage rates typically are offered in .125 percent increments. Every weekday (sometimes multiple times per day) rates are issued in a range/spread. Within this range, every borrower has a par rate. Meaning a rate that fits their credit profile (score, terms, equity, loan program) in which there is no additional cost to obtain that rate.

For today’s post, let’s assume a buyer’s credit profile warrants a conforming 30-year fixed rate at 4.375 percent; the par rate. The rate range may allow the buyer to buy down the rate all the way to 3.625 percent. This would represent six rate increments available to buy down. Each increment is worth a cost of about 50 basis points (.5 percent). To find the dollar cost, you take the loan amount multiplied by the cost in basis points (illustrated below using a loan amount of $250,000).

Rate:              Cost:
4.25%             $1,250
4.125%           $2,500
4%                 $3,750
3.875%           $5,000
3.75%            $6,250
3.625%          $7,500

Each incremental rate drop (in this example) results in a payment decrease of about $20 each month. This makes a break-even point at about the five-year marker (take the cost of the buydown amount divided by the payment reduction).

To see the long-term savings, compare the 30-year loan at 4.375 percent ($199,356 paid in interest) to the 30-year loan at 3.625 percent ($166,804 paid in interest). The total difference in interest paid is $32,552.

Secondly, let’s discuss if it’s worth it. The first question … and probably the most important question for this consideration is how confident you are that you will own the house for at least the amount of time equal to the break-even point? If you’re doubtful, it’s an easy answer that buying down the rate doesn’t make sense. If you are confident you will own the house for at least that amount of time, it’s worth considering.

Lastly, let’s discuss my advice. If it doesn’t feel right, don’t pay the extra money to buy it down. As you can see, the cost can get expensive. While the financial impact can certainly warrant/justify the expense, if it means you are using saved funds that otherwise were pegged to be used for upgrades, landscaping, furniture, paint, flooring … etc., don’t sacrifice the ability to make your new home perfect in favor of getting a super-low rate. You don’t want to regret the decision. On the contrary, for those who are fortunate enough to have enough funds to do all the above … it’s a much easier decision to go for it. Unfortunately, you once you sign your loan documents at closing, it’s too late to buy down your rate. So be confident in your decision, whichever one you choose.

This weekly Sponsored Column is written by Mike Miles of Fountain Mortgage. Located in Prairie Village, Fountain Mortgage is dedicated to educating, and thus empowering, clients to make the best financial decision possible for their situation. Contact Fountain today.

Mike Miles NMLS ID: 265927; Fountain Mortgage NMLS: 1138268