“I purchased a home from builder XYZ for $320,000, and have
a $10,666 Realtor rebate coming back to me. (2/3 of 5% of
$320,000). The builder had me sign a paper that says the
Realtor rebate can only be used to pay settlement costs. In
addition, if I use XYZ’s lender, the lender will pay $5,000
toward my settlement costs.
I can’t imagine that my settlement costs will add to the
$15,666 credit that I have. What happens to the excess? Will
the builder take it off the purchase price?”
Rebate of the Realtor’s Commission
The rebate of the Realtor’s commission can only be used as a
credit against closing costs. If the rebate is not fully
needed for that purpose, the Realtor will keep it – it will
not be taken off the purchase price.
Why is the builder willing to charge you $320K and pay $10K
of your costs, but is not willing to reduce the price to
$310K? While they cost the builder the same amount on your
transaction, they have different implications for other
transactions. By
defining the price reduction as a rebate, the builder
retains flexibility to adjust prices on a case-by-case
basis, as circumstances dictate. These circumstances include
differences between individual buyers – some must be
persuaded to buy, while others don’t. It also includes
possible changes in the market over time. If demand picks up
and sales increase, the rebate may no longer be necessary to
stimulate sales.
If the lender reduced your price to $310K rather than
offering the rebate, he would lose this flexibility. All the
houses in the same price bracket of his sub-division
would have to be reduced to $310K.
In part, this is because potential buyers would
become aware that units were being sold for $310K.
In addition, if your house was sold for $310K, appraisals of
houses in the same price bracket probably will come back no
higher than $310K. Appraised values are based on the most
recent prices of comparable properties, and in a
sub-division the comparable properties are right next door.
A builder would have great difficulty selling a house for
$320K that has been appraised at $310K.
You should be able to use the entire rebate. In addition to
paying for the various services associated with the
transaction, such as title insurance, you can use the rebate
to fund your tax and insurance escrow account, which can be
sizeable. (You can estimate the required escrow using the
procedure described in How Do I Figure Escrows?, on
my web site).
If you have excess rebate after funding your escrow account,
you can use it to reduce your interest rate by paying
points. But this raises the second complication in your
dealing with the lender, which is the offer of a second
rebate if you agree to use the builder’s lender.
Rebate From the Builder’s Lender
Builders cannot require buyers to take a mortgage from the
builder’s in-house lender, but they are allowed to offer an
inducement to do so.
The inducement in your case is the offer of an
additional $5,000 rebate.
But unless you know the full price from which the
rebate is deducted, and compare it to prices available
elsewhere, this offer is meaningless.
To illustrate, I assumed you would finance your purchase
with a 30-year fixed-rate mortgage for $256,000, and on
February 24 I shopped this mortgage among the lenders who
compete for loans on my web site. The price quotes covered
an interest rate range from 3.25%, which requires the
borrower to pay $22,000 in points, to 5.25% which provides
$14,000 to the borrower as a rebate.
The builder’s lender is offering you a $5,000 rebate but has
not specified the interest rate. Since a rate of 4.625%
commands a rebate of $6100 in the market, if offered by the
builder’s lender, that rate would be $1100 above the market.
In a similar fashion, 4.5% would be $200 above the market,
4.375% would be $2400 below the market, 4.25% would be $4300
below the market, and 4.125% would be $6300 below the
market. If these were the actual numbers in your case, you
should receive a rate of 4.25%, and certainly no higher than
4.375%.
Using Excess Rebate
If you accept a mortgage from the builder’s lender, you
would have total rebates of $15,666, which could be more
than you need to pay all settlement costs including the
funding of your escrow account. The excess should not be
left on the table because you can use it to reduce the
interest rate.
Assume the rate offered you with the $5,000 rebate is 4.25%.
Based on market quotes, you should be able to “buy down” the
rate to 4% by giving up the rebate. But this kind of
arrangement has to be worked out beforehand. If they won’t
allow you to buy down the rate, their offer of a rebate is
bogus.
