Interest Rate Buydowns & Seller Concessions
/If you (or anyone you know) have bought or sold a home in the last 9 months you have probably heard about Seller Concessions or Rate Buydowns as tools for reducing high mortgage payments. In October 2023 mortgage interest rates spiked up to nearly 8% which caused a slowdown in buyer activity due to the high costs associated with getting a mortgage.
Over the weeks that followed nearly 60% of closed transactions in the Denver Metro area had seller concessions negotiated as part of the deal with 45% of those concessions going towards buyer’s closing costs for a rate buydown.
What is a Seller Concession?
Simply put, they're expenses that the seller agrees to cover on behalf of the buyer. In the Contract to Buy & Sell Real Estate there is a section where a buyer can ask for a seller concession up-front which appears as a credit on their final settlement statement to cover a range of costs associated with buying a home. The buyer receives the credit off of their closing costs, which frees up the cash they would have otherwise had to bring to closing.
Eligible costs that can be covered by concessions typically falling into two main categories:
Closing Costs - These are fees paid at the end of the buying process to finalize the transaction. They can include things like:
Discount Points / Rate Buydowns
Loan Origination fees
Appraisal fees
Title insurance premiums
Escrow fees
Recording fees
Prepaid Expenses - These are upfront costs associated with owning the home, such as:
Prorated Property taxes
Homeowners Insurance premiums
Homeowner's association (HOA) fees
Why Would a Seller Offer a Concession?
Smart sellers offer or are amenable to concessions to make their listing more competitive and to help buyers offset the costs of higher interest rates. Sellers may also offer concessions to offset the costs of future repairs or to use as leverage to negotiate a higher offer price.
Offering a seller concession can also help incentivize more buyers to write an offer than reducing the list price. A $10,000 reduction in list price amortized over 30 years will save a buyer ~$20 a month but $10,000 off their closing costs is a substantial decrease in the amount of money a buyer needs to have on-hand today to buy a house. The net to the seller is the same in these 2 circumstances, but it can make a huge difference to a buyer.
What is a Rate Buydown?
A buyer can contribute extra cash upfront to the lender to "buy down" their interest rate for a specific period of time, usually the first few years of your mortgage but they can be for the entirety of the term as well. The costs associated vary based on market dynamics, creditability, and the type of buydown (temporary vs. permanent) that the buyer is doing. The lower rate can save the buyer hundreds of dollars a month depending on the terms of their loan.
For example, let's say the normal interest rate is 6.5%, but the lender will let you buy down the rate to 5.75%, which costs $10,000 up-front to do so. That may sound expensive, but if your broker can negotiate to get the seller to cover some or all of that expense buyers may be enticed to write offers when they’d otherwise be on the sidelines.
Putting It Together
Mortgage math in the market these days is complex because of all the possible loan scenarios that can play out depending on how much money a buyer can bring to closing. When we’re writing offers we are always checking in with the buyer’s lender to make sure that everyone is on the same page about the different things we could leverage to make a contract work for a buyer.
Several months ago we worked with a (very) part-time broker representing a buyer on one of our listings. Our sellers were amenable to offering a concession with a full-price offer after their home sat on the market for a month, but the buyer’s agent didn’t seem to understand anything about how her buyer could leverage a seller concession to make the loan terms more favorable. She wrote a crazy lowball offer and then didn’t accept our counter which was at list price with a decently sized seller concession.
Fortunately for everyone involved the lender could tell that the buyer’s broker didn’t understand what he could do with a seller concession, so he ended up reaching out to me directly to discuss possibilities if we could get a concession amount that was really close to what I’d been telling the agent the sellers would be amenable to all along. He was able to talk the buyer through all the different loan options she had with a seller concession and got her to work with her agent to resubmit an offer that our sellers accepted. I can honestly say it was the first time I’ve had a lender essentially broker a deal for their buyer, which I was grateful for, but it also left me feeling a little frustrated.
There are several lessons in that anecdote, but the biggest one is that you shouldn’t work with a broker who isn’t regularly showing properties, talking to other brokers, and writing contracts in this market. Market conditions are changing weekly and working with an inexperienced or part-time broker or lender could cost you more than you realize.