By paying a large sum of money to the lender at the time you take the loan, you can lower the interest rate. That sum is always measured as "points." A "point" is one percent of the principal amount of the mortgage, paid to the lender. (One point on a $100,000 loan would be $1,000.)

There are two types of buydowns: temporary and permanent.

A temporary buydown is an option for borrowers who expect to have a significant increase in income over the coming years. It lowers the interest rate and the monthly payments for the first few years of the loan. The most common type of temporary buydown is the "3-2-1" buydown. For example, an 8 percent loan with a 3-2-1 buydown would have a 5 percent interest rate the first year, a 6 percent interest rate the second year, a 7 percent interest rate the third year, and an 8 percent interest rate beginning the fourth year through the life of the loan. This type of buydown will generally cost three to four points – that is $6,000 to $8,000 on a $100,000 loan.

A permanent buydown lowers the interest rate for the life of the loan. Again, this type of buydown will generally cost six to eight points and will reduce the interest rate by one percent for the life of the loan.

It is often paid by the seller or the builder as an incentive to finalize a sale by creating lower monthly payments. Be aware that the cost of those points may be included in the selling price.

Advantages

• Lower payments

Disadvantages

• High up-front cost to get lower interest rate paid in cash or financed over the life of the loan
• Sales price of home may increase beyond appraised value