How Much of a Down Payment Should I Make?

How Much of a Down Payment Should I Make?



How much of a down payment you put down depends on a number of factors (not counting available capitol). They are:

  • What your preferred loan is

  • How much you qualify for

  • What you want your monthly payments to be

  • What programs your house qualifies for (such as USDA)

  • Whether you want to avoid PMI (aka private mortgage insurance)

  • Whether you qualify for down payment assistance (local, statewide, or national)

  • Whether your money would be better invested elsewhere

  • What you need your DTI (debt-to-income) to be

So a lot of factors to take in. However, if you showed up here expecting to read some abysmally high percentage, you’re in luck. Believe it or not, you’ve got options.

Do you need to put 20% down on a house?

No. The 20% myth is a common misconception. The reason this got into the American mindset is probably because you need 20% if you want to avoid PMI (private mortgage insurance). Mortgage insurance premiums (shortened to MIP) vary on the loan amount and the down payment amount. Regardless of what it is, many home buyers try to avoid it because they view it as getting penalized twice for the same thing: borrowing money to buy a house.

Why do banks make you pay PMI?  

In short, it’s insurance --just not insurance for you. Should you default on your loan, it’s insurance for the lender. It insures they get their money if or when you ever stop making payments.

So, just know that even though you may have insurance on your loan, it’s not the kind of insurance that would stop your home from being foreclosed upon should you default on payments.

How much does PMI typically cost?

PMI can cost you anywhere from 0.5% to 1% of the loan amount on an annual basis. So for a $200,000 house, you could pay anywhere from $1,000-$2,000 a year. The total you owe, however, is not due all at once, and is separated into 12 equal payments and added into your monthly mortgage payments.

What are the minimum down payment amounts for each loan?

The amount you need to put down depends on the loan you choose and qualify for. Listed below are the most common loan types and the minimum down payments needed for each.

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*VA jumbo loans will cover any amount, but to avoid making a down payment the maximum loan amount must not exceed $453,100 or $679,650 (if the property is in a high cost area). If the loan amount exceeds the maximum amount, then the borrower is required to pay 25% of the amount over the limit. Example: a $525,000 house in a non high cost area would require a down payment amount of $17,975.

Note: When thinking about what you’ll need for a down payment, don’t forget about closing costs.

Closing costs can be anywhere between 2 and 5 percent of the purchase price. Most homebuyers pay around $3,700 in closing costs. If you don’t have it, some government loans let you incorporate the costs into the home loan, but conventional loans typically do not.

Must Read: FHA Loans and PMI

Because FHA loans are the most common loans, we thought it necessary to address this.

FHA Myth: PMI drops off after you reach 20% equity.
— False as of 2015.

There is another common myth that once you reach 20% equity with an FHA insured loan that PMI drops off. To be fair, this was true for a short period of time, but it has since changed. As of 2015, you must pay PMI for the life of the loan.

Depending on the loan-to-value of your home, you’ll pay a mortgage insurance premium between .80% and .85% of the loan amount. One caveat from this is that, though you must pay this for the life of the loan (assuming you don’t refinance), the percentage used to be higher.

But don’t forget: You can always refinance.

Refinance into a standard loan, and you will be able to drop the PMI once your home equity reaches 20%. With current market trends, you’ll likely be able to do this long before you’ve made 20% of your home payments. Why? Home values are jumping from one year to the next. Keep track of your home’s tax assessment value. Don’t be surprised if you’d be able to refinance and drop PMI payments after just 5 years.

Things you’ll need to think about before you commit to refinancing include:

  • The new interest rate (which may affect monthly payment amounts, and how much of your monthly payment will go towards principal)

  • What the new loan term would be (if you’ve made 15 years of payments, do you want to commit to a 30 year loan?)

What is the average down payment on a house?

Despite FHA loans being one of the most popular loans to take out, and it only requiring a 3.5%  down payment, the national average is currently 6% of the purchase price. Again, this is just the average, and is not required by lenders nor will it affect your ability to qualify with them.

Does making a larger down payment affect what interest rate you get?

Yes. Lenders offer better interest rates when the ‘loan-to-value’ ratio is low. So when you make a high down payment, it means that the lender is at less of a risk. The lower your interest rate, the more money you’ll save over the life of the loan.

Can you buy a house with no money down?

As you likely noticed, there are two loan options that don’t require a down payment: USDA and VA.

USDA loans are geared towards low income home buyers looking to purchase in rural areas.

VA loans are for past and present military personnel. The loan covers the entire purchase price of the home and does not require mortgage insurance.  

Does a down payment reduce the loan amount?

Of course. If you use an FHA loan, purchase a $200,000 home, and put 3.5% down, your loan amount would then be $193,000.

Does a larger down payment offset bad credit?

Low-credit potential home buyers pose more of a risk to lenders, which is why many are denied loan approval. A larger down payment means a lower loan-to-value for lenders, and thus less of a risk. Keep in mind, if you have bad credit but are able to make a large down payment, you may get qualified for a loan, but may still have a high interest. It may be in your best interest to put any down payment money you’ve saved up towards your debt. This will lower your DTI and improve your credit score. With a higher credit score, you’ll receive a better interest rate and lower monthly mortgage payment when you buy.

Why should you think about DTI when buying a home?

DTI stands for debt-to-income ratio. Many people don’t really consider it when purchasing a home because a home is, for most people, the largest purchase they’ll ever make. If they qualify for their dream home, what more is there to worry about?

Because you never know what could happen. You might unexpectedly need to buy a car or need a personal loan. If your monthly payments eat into your monthly gross income too much, your DTI might be too high for lenders to approve additional financing.

If you make a larger down payment, your monthly mortgage payments will be lower because you will receive a lower interest rate and need a smaller loan amount.

Is there a program for first time home buyers?

Yes, there are many, but in terms of down payments there are many local, state, and nationwide down payment assistance (DPA) programs. To learn more, click on the Down Payment Assistance tab, from the drop down menu and we’ll guide you through the process.

Conclusion:

What down payment amount you choose will affect a variety of things, both short term and long term. To decide, consider any investments you may have in the future and whether your money would be better utilized by you or your lender. For some people, investing may prove more lucrative than avoiding PMI. And in some select markets, your house’s appreciation growth rate may help you reach 20% equity sooner rather than later. In these two scenarios it might be best to keep your money in your own pocket.   




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