What is a 3-2-1 buydown mortgage?
A 3-2-1 buydown is a temporary mortgage arrangement that lowers the loan’s interest rate for the first three years of a fixed-rate mortgage. The interest rate is cut by 3 percentage points in year one, 2 points in year two, and 1 point in year three. In year four the loan reverts to the original contract rate and stays at that level for the remainder of the term. It’s essentially a short-term subsidy of monthly payments rather than a permanent change to the loan.
How it works (step by step)
– Lender issues a fixed-rate mortgage at the agreed-upon contract rate (the full rate that will apply after year three).
– A buydown fund is created up front to cover the difference between the full monthly payment and the reduced payment for years 1–3. That fund can be paid by the seller, homebuilder, lender or sometimes the buyer or an employer.
– Each month during the first three years, the borrower pays the lower, buydown-adjusted payment. The lender applies the buydown funds to make up the shortfall.
– From year four onward the borrower pays the full monthly payment based on the original contract rate.
Key definitions
– Buydown: A prepaid credit or subsidy that lowers the borrower’s interest rate (temporarily or permanently).
– Contract/original rate: The interest rate written into the loan documents that will apply after any temporary buydown expires.
– Temporary buydown: A subsidy that reduces the rate for a finite period, unlike permanent points that lower the rate for the loan’s life.
Who can use a 3-2-1 buydown
– Typically available for primary and secondary residences, not for most investment properties.
– Usually not offered with adjustable-rate mortgages that have an initial fixed period shorter than five years.
– Most commonly seen with new-construction incentives or seller concessions.
Pros
– Lower initial payments make a home purchase more affordable during the early years.
– Helpful if you expect your income to rise or want breathing room while relocating or settling finances.
– Sellers and builders can use it to market homes when market rates depress affordability.
– The borrower gets immediate monthly cash-flow relief without changing the loan’s long-term rate.
Cons and risks
– Payments step up in year four and remain higher for the loan’s life; you must be confident you can afford the higher payment.
– If the buyer finances the buydown themselves, they must weigh whether those upfront funds would be better used elsewhere (e.g., paying high-interest debt or investing).
– Sellers may raise the home price to offset buydown costs, reducing or eliminating the benefit.
– Not suitable if the borrower’s job or income is unstable; it can create a payment shock later.
Who usually pays for it?
– Most often the seller, homebuilder or lender pays the buydown cost as an incentive to buyers.
– Employers sometimes pay when relocating employees.
– Buyers can pay for a buydown themselves, but then it’s effectively a prepayment of interest and requires evaluating opportunity cost.
How much does a 3-2-1 buydown cost?
The cost equals the total amount of interest subsidy paid over the three buydown years — essentially the sum of the monthly savings the borrower receives during that period. That lump sum is paid up front into an account that the lender draws from to cover the reduced payments.
Worked numeric example
Assume a $300,000, 30‑year mortgage with an original (contract) rate of 6.00%.
– Full (contract) payment at 6.00%: $1,798.65 per month.
– Year 1 rate = 6% − 3% = 3.00% → payment ≈ $1,264.81/month.
– Year 2 rate = 6% − 2% = 4.00% → payment ≈ $1,432.25/month.
– Year 3 rate = 6% − 1% = 5.00% → payment ≈ $1,610.46/month.
Monthly and annual savings versus the full payment:
– Year 1: $1,798.65 − $1,264.81 = $533.84/month → $6,406.08 saved in year one.
– Year 2: $1,798.65 − $1,432.25 = $366.40/month → $4,396.80 saved in year two.
– Year 3: $1,798.65 − $1,610.46 = $188.19/month → $2,258.28 saved in year three.
Total subsidy (approximate cost of the 3-2-1 buydown) = $6,406.08 + $4,396.80 + $2,258.28 ≈ $13,061.16. That is the amount the payer must provide up front to fund the lower payments for the first three years.
Short checklist before agreeing to a 3-2-1 buydown
– Who is paying the buydown? (seller, builder, lender, employer, or you)
– Is the buydown amount being held in an escrow/reserve account and documented in the loan papers?
– Exactly how are the reduced payments calculated (payment schedule and dates)?
– Will the seller increase the purchase price to offset the buydown cost?
– Can you comfortably afford the full payment when the buydown expires?
– Are there any lender fees, or does the buydown affect approvals or closing costs?
– Is the buydown permitted for the loan/product you are using (e.g., some ARMs exclude it)?
Is a 3-2-1 buydown a good deal?
It can be attractive when someone else pays for it and you need temporary cash-flow relief. The tactic helps buyers qualify and ease early payments when interest rates are elevated. But the buyer must be confident they can make the higher payments later. If the buyer themselves is paying for the buydown, compare the upfront cost to other uses for that cash—paying down higher-interest debt or investing it may yield a better financial outcome.
The bottom line
A 3-2-1 buydown provides short-term payment relief by reducing the interest rate for the first three years of a mortgage, then reverting to the full rate. It’s a useful sales incentive and can help buyers bridge affordability gaps, but it carries future payment risk. Carefully confirm who pays, how the subsidy is held and documented, and your ability to afford the full payment after the buydown ends.
Selected reputable sources
– Investopedia — 3-2-1 Buydown: https://www.investopedia.com/terms/1/3-2-1_buydown.asp
– Consumer Financial Protection Bureau (CFPB) — What is a buydown or points on a mortgage?: https://www.consumerfinance.gov/ask-cfpb/what-is-a-buydown-or-points-on-a-mortgage-en-2039/
– NerdWallet — What is a mortgage buydown?: https://www.nerdwallet.com/article/mortgages/what-is-a-buydown
– American Pacific Mortgage — Understanding a 3-2-1 Interest Rate Buydown: https://www.americanpacificmortgage.com/blog/understanding-a-3-2-1-interest-rate-buydown/
Educational disclaimer
This explainer is educational only and does not constitute financial, legal or tax advice. Mortgage products, costs and availability vary; consult a qualified mortgage professional and review all loan documents before making decisions.