When we bought our first home back in 1993, we did so with a down payment of five percent. A decade ago, you could even find home loans that didn’t require any down payment.
Since the real estate market crash, though, lenders have tightened their underwriting requirements. Zero-down loans are, for the most part, a thing of the past. So, how big of a down payment do you need to buy a home today?
It’s an important question to ask, especially if you’re considering buying anytime soon. Home loan rates are still pretty low, and real estate values are just starting to climb back up. It’s a great time to buy.
But how much money do you need first? And what’s the average down payment on a house?
Well, that really depends on the type of mortgage you’re after. A few zero-down mortgages still exist, but they’re generally reserved for certain applicants. Your own down payment requirement could range all the way up to 20 percent.
Here are the details for different types of mortgages:
VA Loans — 0% Down Payment
If you’re a veteran, you may be able to get a mortgage backed by the Department of Veterans Affairs. If you qualify, you can use a no down payment mortgage option.
You can also use this loan to repair a home or refinance your existing mortgage. The VA program also allows for upgrades that make the home accessible, if that’s what you need. Find the eligibility requirements here.
USDA Loans — 0% Down Payment
If your dream is to live in the middle of nowhere, check out USDA loans. These loans, backed by the Department of Agriculture, are only eligible for homes in certain rural areas.
If you meet the income requirements, you may qualify for a zero-down mortgage. If your income is very low, you may even qualify for extended financing to make your payments more affordable.
Higher income earners can still qualify for this loan, but they’ll have to pay a down payment ten percent or more. You can also use this loan to rebuild or rehabilitate a qualifying property. Find out more here.
HomePath — 3% Down Payment
HomePath is a financing program available when you purchase a home owned by Fannie Mae.
Just to be clear, Fannie Mae owns homes that have gone through the foreclosure process. I’ve purchased five foreclosures as investments, and I’ve walked through dozens of foreclosures in the process. Some homes remind you of the basement in Silence of the Lambs, while others are in excellent condition.
It may take some time to find the right home, but it can be worth the effort.
There are two big benefits of HomePath loans. First, the down payment requirement is just three percent. Second, it doesn’t require private mortgage insurance.
You can get more details at Fannie Mae’s HomePath website.
Home Possible — 3% Down Payment
If you meet the income requirements, you may be eligible for a loan from Freddie Mac. Some borrowers will need to make a five percent down payment, but others will qualify for a three percent down payment.
These mortgages are reserved for borrowers under a certain income level in underserved or expensive areas. You can find out more here.
FHA Loan — 3.5% Down Payment
If you qualify, you can purchase a home with an FHA loan with a down payment of just 3.5 percent.
These mortgages, backed by the Federal Housing Administration, now require private mortgage insurance for the life of the loan. This can make your monthly payments more expensive. And the only way to get out of the payments is to refinance. Find out more about this issue here.
The credit requirements for an FHA mortgage are fairly low. But you will have to have enough money in the bank to cover that down payment. The FHA also offers refinancing programs and programs that allow you to finance renovation costs on a fixer-upper.
Conventional Loans — 5% Down Payment
If you don’t qualify for one of the above government -uaranteed programs, you are likely looking at a down payment of five percent or more. And, of course, this doesn’t include other closing costs that you’ll either need to pay or negotiate with the seller to pay.
In total, you should plan to save at least ten percent of your home’s purchase price to pay for the down payment and closing costs.
Caveats of Low Down Payment Mortgages
Just because you can get a mortgage with a very low — or even no — down payment doesn’t mean you should. In some cases, these types of mortgages make sense. But you’ll need to do the math in your particular situation to see which option is best for you. Here are some things to consider when looking at a low down payment mortgage.
The Perils of Private Mortgage Insurance
Keep in mind, however, that for down payments of less than 20 percent, you will pay private mortgage insurance (PMI). PMI is insurance that protects the lender for up to 20 percent of the purchase price. You pay it monthly as part of your mortgage payment.
For example, if you paid a three percent down payment on a $100,000 home, PMI would guarantee $17,000 of the loan. The premium you’ll pay will vary depending on your home’s value.
Here are typical rates:
For example, let’s say you buy a $100,000 home and put five percent down. Your down payment is $5,000, and the mortgage is $95,000. Divide the $95,000 mortgage by 1,500, and you get your monthly PMI cost: $63.
On a conventionally-financed mortgage, you’ll only have to pay private mortgage insurance until you have 80 percent equity in the home. That can happen either because you pay down the principal or because home values rise in your area. Getting rid of PMI can take a little legwork on your part, but it’s usually worth your while.
With FHA mortgages, however, you’re required to pay PMI for the life of the loan. So let’s say you pay that $63 per month for 30 years’ worth of mortgage payments. That’s about $22,680! To get out of it, you’ll have to go through the refinancing process — complete with new closing costs — when you have 80 percent equity in your home.
Obviously, it’s good to get rid of PMI when you can. But it’s even better to avoid it in the first place. And you can do that by buying a cheaper home so that you can make a 20 percent minimum down payment.
More Time Needed to Build Equity
Many first-time home buyers are surprised at how long it can take to build equity in a home. Your first several years’ worth of mortgage payments mostly go towards paying interest. It takes a long time to pay down your principal so that you actually own more of your home.
Let’s take that $95,000 mortgage above, for an example.
Let’s say you’re paying 3.5 percent interest on that mortgage. Using this calculator, you can see that with your first month’s payment, only $149.00 is going towards principal. The other $277 and change goes towards interest! It isn’t until you’ve been paying on your mortgage for nearly 10 years that your payment is split equally between principal and interest.
The lower your down payment, the less equity you start with in your home. And that means it’ll take even longer to build more equity.
If you plan to move within the next five years, think twice about buying a home with a low down payment. By the end of that period, it may wind up costing you to get out of your home. Plus, you’ll have no extra equity to use for a down payment on your next home.
Unaffordable Housing Costs
The biggest issue with a low down payment mortgage is that needing this type of mortgage may be a signal — and not a good one.
If you can’t put aside at least 10 percent for your down payment, you may be jumping into a mortgage that will ultimately be unaffordable. If you can’t clear out enough money in your budget to save, buying a home is a risky move.
Sure, your mortgage payments may be cheaper than your rent payments. But now you’ll also be on the hook for all the maintenance and other ongoing costs of the property.
On the Other Hand
But on the flip side, in some areas of the country, rent is much more expensive than owning a home. If that’s the case where you live, buying a home with a low down payment may make sense.
With rent costs super high, finding room in your budget to save a large down payment can be tough, if not impossible. If you get into a home that is a few hundred bucks a month cheaper than rent, you can save the extra money for emergencies. And once you have a good emergency fund, you can start throwing extra money at the mortgage principal.
On a similar note, mortgage rates are still low right now, but they’re starting to climb back up. You may be better off getting into a mortgage at a lower interest rate now, rather than waiting.
Learn More About Finding the Best Mortgage Lender
Ultimately, it’s up to you to do the math and figure out whether you should buy now or wait until you have a larger down payment. If you decide to opt for a low down payment mortgage, check out the above-listed program to get you there.