When buying a house, it is critical that every borrower research each loan program to know the ins-and-outs of each type of financing. Knowing what loan is best suited for you and your family will depend on your individual financial situation. Perhaps nothing is more important than trying to determine how much cash you will need upfront to purchase your first house. A down payment is often the largest cost a buyer will face when buying a home and choosing the right loan program can help you save a few thousand dollars.
Each loan features a down payment requirement — from zero percent up to 15% — depending on the type of property you are buying and the occupancy goals (primary home, second home or investment property). While putting the least amount of money down sound attractive, there are benefits to putting more cash down that can be exceptionally beneficial to a home buyer.
Advantages of a Large Down Payment
One of the advantages of putting more down on a home purchase is a lower interest rate. Most lenders will give you access to the best rate for your credit score once you put down between 20% to 30%. Putting down this much will allow you to avoid private mortgage insurance (PMI) which is an extra cost to your monthly payment when you put less 20% down on a purchase (excluding FHA loans).
A larger down payment is also more attractive to sellers as it signals you have the reserves to buy the home and thus you are a less risky buyer.
Down Payment Requirements
As stated before, every loan program is different when it comes to down payment requirements. Use this as a guide to help you determine which loan is right for you.
Conventional loans are back by Freddie Mac and Fannie Mae. Both programs will only require a down payment of 3% with their Home Possible and Home Ready programs. Freddie Mac’s Home Possible and Fannie Mae’s Home Ready program each requires a minimum credit score of 620.
In order to qualify for a Home Possible loan, your income must be at or below 100% of the area median income. For Home Ready, you must be below 80% of the area median income.
For normal conventional loans that have no income limits, lenders like to see at least a 5% down payment.
Conventional loans will also require PMI (Private Mortgage Insurance) if you do not put at least 20% down.
FHA Loans are backed by the Federal Housing Administration and require borrowers to only put down 3.5%. In order to qualify for that down payment, you must have a credit score above 580.
Those with credit scores between 550 and 579 will need to put 10% down in order to secure FHA financing.
In either case, MIP (Mortgage Insurance Premium) will be required on the loan. Those who put down less than 10% will have MIP for the life of the loan. If you put down more than 10%, you will carry MIP on the loan for 11 years. Many buyers refinance this loan when their loan-to-value drops below 80% in order to get rid of MIP.
USDA and VA Loans
USDA and VA loans have the perhaps the biggest advantage for borrowers who qualify for them — no down payment is required.
These loans are backed by their respective governmental departments and are less risky to lenders which allows for the zero percent down payment.
With VA loans, there is no PMI requirement. For USDA loans, borrowers will have to pay an annual fee that is charged monthly and functions like PMI. The only to get rid of the annual fee is by refinancing the home.
Ways to Offset the Down Payment
For borrowers that are tight on cash but require a larger down payment than they originally planned, there are options available to alleviate the burden of the increased cost.
Every state and local government has down payment assistance programs for borrowers who qualify. This assistance comes in the form of grants or loans. In exchange for the funds, these entities will require you to stay in the home for a certain number of years and the grant will become fully forgiven. If you refinance or sell before the determined time frame, you will be required to pay back the assistance.
Another way buyers can offset the cost of a higher down payment is by requesting a seller concession on the home. Each loan program has a maximum allowable concession with the highest being up to 9%. The concession cannot be used for the down payment; however, it can be used to cover the closing costs on the loan to minimize the financial impact of the down payment.