Fannie Mae changes 2-1 buydown guidelines

With national sales numbers for new homes slowing, and the trend trickling down to the Springfield metropolitan market, builders are looking for new ways to market their product. In an effort to continually spur demand for mortgage loans, the home loan industry has found new twists on existing products to help buyers get into a home and help builders and real estate agents sell their product.

One innovation on an existing loan program happened this fall when Fannie Mae, one of two government-backed investor pools (Freddie Mac is the other) that provide capital for mortgage purchases and refinances, revised its guidelines to allow 6 percent seller paid closing costs, pre-paids and escrows. Prior to this change, builders or sellers were only allowed to pay 3 percent in concessions.

A seller concession is a closing cost or fee paid by the seller on the buyer’s behalf. Items that fall into this category would be appraisal fees, title insurance premiums, closing company costs, underwriting charges and recording fees for filing a deed.

Escrows are accounts set up for the buyer which allow a portion of the total house payment to be set aside for taxes and homeowners insurance. When these items become due, the lender will take the accumulated money in the account and pay the entities that are owed money.

The rules changed in an attempt to become more competitive with Federal Housing Administration loan programs. FHA is a government-insured loan program geared toward buyers that traditionally would be shut out of the home-buying market. Fannie Mae programs were more restrictive, but by increasing the amount of seller concession allowed, an option called the 2-1 buydown, which has been around for several years, took on a new shine.

A 2-1 buydown takes the traditional 30-year fixed mortgage product and slashes 2 percentage points off of the starting interest rate for the first year of the loan. The second year, the rate is 1 percentage point lower than the mortgage, hence the name. The best feature of this loan, however, is that after the two-year buydown period is over, the remaining 28 years of the loan are fixed at the starting interest rate.

The buydown part of the name is where the structure is now changed. To take advantage of the buydown, approximately 2.25 percent of the purchase price of the home must be paid upfront. Prior to the change, the buyer would have had to pay this entire amount upfront. This was a hurdle for the cash-strapped buyer who wanted to take advantage of 100 percent programs and for the buyer with cash who wanted to put all of it into a down payment.

As a result, this program was rarely used because most buyers wanted the seller to pay all or some of their closing costs. When closing costs and the buydown fee were added together, this was over the 3 percent threshold allowed by Fannie Mae. Now that the rules have changed, the buyer can have the seller pay closing costs, prepaids and escrows – and the buydown fee.

Combined, this amounts to about 4.5 percent of the purchase price. Now, the buyer, who previously was looking at a 30-year fixed rate at 6.5 percent is now looking at the following rate:

• Start rate: 6.5 percent

• 1st-year rate: 4.5 percent

• 2nd-year rate: 5.5 percent

• Remaining 28 years: 6.5 percent

Essentially, the interest for the first two years of the loan is prepaid by the builder/seller. The buyer is financing a little more on their loan, but receiving a significant discount resulting in much lower payments for the first two years of the loan. Since the payment is significantly less, the buyer can qualify for more house than they previously could and “grow” into the higher payment during the two-year period.

This is just one example of the ever-evolving secondary market adjusting to consumer demand.

Chris Ray is a mortgage originator at First National Bank. He can be reached at chris@myfnbonline.com.