More Articles on Mortgages and Purchasing a Home
Visit the Main Purchases Page
10 Steps to Buying a Home
Deciding How much to put down
The best time of month to close
Escrows = Higher closing costs, plan accordingly
Home Buyer's Checklist - fill it out before you go looking
Things to remember After the Move
Things to remember Before the Move
How Much House Can you Afford
a chart of house prices based on what you have left over
Income and Debt
a chart of how high your payments can be
Other Sections in
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Deciding on How Much to put Down?
0%, 3%, 5%, 10%, 20% or more?
When deciding just how much to put down on a house, there are two sides to the equation to make this work out in an acceptable fashion for you. First, consider ALL the costs that come with the house. Only after you know all those can you then look at how to get the best mortgage deal based on how much cash you have available.
I have seen many borrowers get themselves into trouble looking to buy a house when they only planned for the down payment and not the extra factors such as taxes, insurance, points to pay to get a better interest rate and how much money in reserves the bank requires you to have left over after paying all these items. Good planning for these items will still leave you plenty for that new refrigerator and drapes! Hopefully these tips will put you in a spot where you can buy those other extras that some people get stuck in a spot not being able to afford.
Therefore, this article is split into the items that you need to prepare for and the best ways to use your avalable cash for a good mortgage deal. Although I have discussed the mortgage aspect first, you must determine what you truly have available before considering which mortgage is best for you.
Here are the questions you need to have the answer to in order to make an intelligent decision on how much to offer to put down on that new house. Do the math (or ask your mortgage professional to help!) and subtract all these things from your available cash to come up with what you really want to offer for a down payment.
How much to Put Down for the Best Mortgage Deal
On the mortgage side of the equation, the more you put down, the better interest rate you will be able to secure. In today's mortgage world, there are a variety of choices from 0% to 20% down or more. There are even programs where you can borrow 103% or even 107% when that extra 3% or 7% is used to pay the costs for the house, truly getting you into a house for no money down.
In order to get the best deal you will need to put 20% down. This will help you to avoid mortgage insurance or taking a second mortgage at a higher interest rate to avoid the mortgage insurance. The best interest rates can still be secured with as little as 5% down (in some situations), but the extra costs of mortgage insurance may negate that good interest rate.
However, the value of owning a home versus renting vastly outweighs the cost of paying a higher interest rate or PMI for a while.
Here is an example. Let's say that you only have 10% down saved up to buy a $150,000 house. Her e is the advantage of buying the house now instead of waiting until you have saved the 20%.
You have to pay PMI of $60 per month for the house to get it now and the house is going up in value an average of 5%. In this case, you can request that PMI is removed in 2 years.
In those 2 years, the house value would go up $15,375 and 24 payments of PMI would cost you only $1,440. Doesn't it make sense to pay fourteen hundred to make fifteen thousand??
Now at 5% down, the PMI payments nearly double (read how to calculate PMI) but even if we look at a cost of $3,000 to make $15,000 this is still a great deal.
This is called leveraging your money. You may even have the 10% down saved and decide to put down only 5%, because you can do somehting better with the other 5%. Compare what it will cost you to keep that 5% and make an informed decision. In this example, keeping half the down payment or about $7,500 would cost you about $750 per year or 10% interest.
Investing that money is likely not going to make you more than 10%, but if that $7,500 can buy drapes or landscaping, the value may be well worth putting that money somewhere else.
20% or more down
If you have 20% down, you are probably not reading this article, but you need to understand that everything you read about rates, whether you see them on the internet or in the paper are always quoted based on that 20% down.
When you have at least 20% down, you have more buying power to get the best deal. You are the borrower who can look at the rates that are posted and actually get those rates.
There are also other advantages to having at least 20% down.
- There is no mortgage insurance required
- Lower Credit Scores can qualify for the best rates
- The banks are sometimes willing to overlook some blemishes on your credit report and loosen the guidelines just a little if you are on the borderline.
Less than 20% down
If you cannot put down the whole 20% down on the house, there are different ways to get yourself close to that very best deal. But, there is a price to pay for putting down less than 20% on your house.
First, do not expect to get that rate without having to pay something extra somewhere. The extra might be in a higher interest rate, paying points, taking a second mortgage with a higher rate on that portion, or paying PMI.
I do want to note that with at least 10% down and credit scores of 660 (sometimes as low as 620), you can still get the best rate on the 1st mortgage.
Rates really go up when there is less than 5% down
For the 97% loans and the 100% loans, rates really jump up, so be ready.
If there is anything you can do do get at least that 5% down, you will save quite a bit of money down the road. Read the example down below to get a handle on some different ways to help you make sure that you have that much.
As for PMI, do not be fooled that you got the best deal just because you were able to sign on for the best interest rate if you have to pay mortgage insurance in addition to that mortgage payment. as discussed above, there is a cost to putting down less that 20%.
Many borrowers miss a chance at saving money because they are so focused on that interest rate. There are other ways that involve not getting the best "interest rate" but actually end up giving you a lower payment than the borrower who only insists on interest rate alone. Learn about and compare the choices. Two great ways to save are with a piggyback loan, or Lender's Paid Mortgage Insurance.
This may be in the form of a "piggyback" loan, where you take a first mortgage for 80% of the purchase price and a second mortgage plus your down payment to make up the other 20%. This will get you a better interest rate on the first mortgage and although there is a higher interest rate on the second mortgage, since that is only on a much smaller part of the loan, this can be a better choice than paying mortgage insurance (PMI) since the interest on the 2nd mortgage is deductible whereas the PMI is not.
These piggyback loans are also known as
80-10-10 loans (80% 1st mortgage, 10% 2nd mortgage and 10% down)
80-15-5 loans (80% 1st mortgage, 15% 2nd mortgage and 5% down) and
80-20 loans (80% 1st mortgage, 20% 2nd mortgage and 0% down)
80-20 loans are now available for those borrowers with less than perfect credit and while the interest rate is determined by your credit scores, this has made home ownership for almost every borrower possible.
Please read PMI vs Piggback Loans for a comparison of payments and a more in depth discussion of whether a combination of a 1st and 2nd mortgage or paying PMI makes more sense for you.
Lender's Paid Mortgage Insurance
Rather than you taking a second mortgage or paying mortgage insurance directly, there is now an option where you can have Lender's paid mortgage insurance, also known as LPMI.
In this situation, you will pay a higher interest rate in place of mortgage insurance and while the total payment is usually almost the same as you would pay with the mortgage plus PMI, your mortgage interest is now completely deductible and can result in quite a savings over paying PMI.
This is an option that many borrower's (and many mortgage people) are unaware of and not all lenders offer this option, but it is definitely an option you should explore when you are putting down less than 20%.
With LPMI, you only have a first mortgage and if you ever need to take a home equity loan that will be available to you. If you have a 1st and 2nd mortgage, there are only a few lenders who will give you a 3rd mortgage for a home equity loan and I guarantee that the 3rd mortgage will carry a very high interest rate.
On the downside for LPMI, if you keep this mortgage for the entire length of the loan you will be paying that higher interest rate long after the PMI would have been removed. While this can be many years down the road before this situation actually occurs, you should be aware of it. Remember though, most borrowers refinance their mortgage or sell their home and the percentage of people this would affect is fairly small.
A note on Paying Points
I strongly suggest that when you are buying a house you pay points on the mortgage. Remember that points are just pre-paid interest, not a fee as many envision points to be. Since points on buying a home are fully deductible the year that you buy the house there is no better time to be paying those points.
Always ask for the choices of paying points and what 1 or 1.5 or even 2 points will buy you. In many situations, less down and putting extra toward buying points may actually have you end up with the better deal. A lower interest rate will save you money for years to come and the time to ask for and look at your options is quite small compared to the amounts of money you can save.
Make sure to read the section on paying points in the Library for more detailed information. I have 7 different articles about ways to use points to your advantage and when you can deduct this the first year, paying points can result in big savings.
Consider all the factors before you make an offer on that house!
But before you make that decision on how much to put down based just on the best mortgage deal, don't forget the additional funds you will need in order to get into the house. Read the 10 Steps to buying a house article to make sure that you do everything in the proper order to have a smooth, pleasant experience.
I suggest that you start with a figure of 3% to 5% of the price of the house to cover all the additional costs that will come with getting you into that new home. This is a total of the costs. For example when it comes to that $150,000 house we spoke of above, we are talking costs of $4,500 to $7,500 PLUS your downpayment.
In other words if you want to put down 10%, you really need to have saved up 15%. If you want to put down 5%, you really need to have saved up 10%.
There are ways to reduce those costs, such as having the sepper pay some of them with a sellers concession or taking a higher interest rate and negative points, but plan to have at least 3% more than the downpayment for the closing costs.
If those numbers sound high to you at first, consider that closing costs are 1%-2% of a house, Insurance can be 1/2% or more and taxes can vary widely. Add in that 1 or 2 points to get that low rate you really want and you can get to 5% very quickly.
At the closing, in addition to that down payment you will need to budget for:
Of course, you may not need all or any of these things at the new house you will buy, but any or all of these items can be needed. You can always have a smaller down paymetn and pay a little higher interest rate in order to have these things covered. A few dollars a month on that mortgage payment is a small price to pay compared with walking by that empty room. So, take the time and make an honest budget for:
How Much Money Do You Need To Have Left Over?
Mortgages have reserve requirements that insist that you have anywhere from 2 to 6 months of house payments left over in the bank after all the costs have been paid in order to qualify for that mortgage.The bank will not allow you to spend all your money on the downpayment and the associated costs.
The standard is 2 months of reserves, but anytime you begin to get more creative than just a 30 year mortgage with 20% down, you should be sure to know what the "Reserve Requirements" are.
The requirement goes higher when there is more risk involved in the mortgage and this risk could come from either taking a second mortgage, an income issue or lower credit scores.
Buying that refrigerator or paying for that new sod before you move in may cost you on interest rate if you get stuck with a mortgage professional who has not made it clear to you up front what is required of you. The banks often do not check the balance in your bank account until late in the mortgage process and more than a few mortgage approvals have suddenly become invalid from this factor.
Sometimes when the cash comes up short, the bank will reapprove the loan with the smaller amount of reserves, but this new approval will certainly come with a new (and higher!) interest rate attached.
You will need "Seasoned Funds"
Be sure to have your down payment ready at least 60 days before you apply for a mortgage loan.
The banks want your funds to be what they call "seasoned" and they will ask for 2 months of bank statements to prove that you have had the money set aside.
Just like reserves, when lower credit scores or income issues come into play, the seasoning period may grow to 90 days or longer.
You will need to provide proof of where the money came from if you can't show these statements. This proof may be from a different account (and therefore 2 months statements from that account) or 401k or maybe a gift letter from a blood relative.
Again. There are lenders who specialize in offering loans for "unseasoned funds", but you will pay with a higher interest rate for the privelege of not having proof of how long you have had that money.
A Dollar and Cents Example
Here is a dollar and cents example that explains all these things as there are more than a few things discussed.
Let's use that $150,000 house above and assume that you have saved up $15,000 and think you have 10% down. This is where many people get themselves into trouble and I hope this will help you be prepared.
If we assume that the closing costs are about 3% ($4,500), and the other costs such as drapes, new appliances, etc are another 3% ($4,500) and now the bank is requiring that you leave 2 payments in the bank after paying all these things out!
If the two payments are say $1,250 (with taxes and insurance) there goes another $2,500 that you cannot use for the downpayment. You really have only about $3,500 for the downpayment, not $15,000.
Am I telling you to save more money? Absolutely not, just do some planning. If you have visited your mortgage professional and done a little planning, you know what all those cost really are going to be. You know from your credit scores how much to have in reserve and you have a good idea of what the closing costs will be.
Every house will be different as to additional costs, but you sure are going to make sure that the refrigerator stays!!
More important than all of that you now know that with $3,500 left you need another $4,000 left over to get to that all important 5% down issue.
Just because you have read this article, or met with your mortgage person in advance, you can pay $154,000 for the house and have a sellers concession use that extra $4,000 to pay the costs and leave yourself $7,500 for the down payment.
OR, you may decide to take 6.5% on the mortgage interest rate instead of 6.125% in order to have the bank pay $4,000 of the costs for you.
These are just examples, but they should give you something to think about and to see why it is so important to visit the mortgage person BEFORE you put that offer down.
Deciding on how much to put down is not always just a question of getting the best mortgage rate, but getting the best deal for you.
The decision of how much to put down on the house involves quite a few things to think about, doesn't it? If you have less than 20% down, just throw the lowest interest rate available idea out the window. There are just too many ways to use higher interest rates to get you into a house cheaper in the long run.
I hope this article has brought up a thing or two that will save you some grief as buying a home can be a stressful experience. Most times, that experience is only stressful because of surprises along the way.
- guide to Home Mortgage Loan Advice & Education for refinancing and purchasing