Almost every loan program requires some sort of a down payment. The exceptions are the VA loan and USDA programs which do not need a down payment. Your down payment is your initial ‘skin in the game’ so to speak.
Mortgage programs that do ask for a down payment issue minimum down payment guidelines. For example, the FHA loan asks for a down payment of 3.5 percent of the value of the property. Most conventional loans need a down payment of 5 percent. Most Jumbo mortgages ask for a down payment of at least 5-10 percent.
With a low down payment conventional loan however, private mortgage insurance will be required. To avoid private mortgage insurance borrowers will make a down payment of 20 percent. Private mortgage insurance, or PMI, is not necessarily a bad thing. In fact, it helps those get into a conventional loan without having to make a larger down payment. The question though is this: is it always best to make the minimum down payment or should you put more money down if you have the option?
For someone with the available cash on hand or who will have cash once an existing home is sold, it’s certainly something to consider. A larger down payment means a lower loan mortgage which in turn lowers the monthly payment. There are multiple factors to consider.
For example, take a couple that will soon retire. They want to keep their monthly expenses as low as possible to keep in line with their fixed income. A lower loan amount helps to accomplish that. Or perhaps someone wants a comfort zone with their monthly mortgage payment. By providing your loan officer with an amount you’re comfortable paying each month and applying current interest rates, a mortgage amount can be calculated. Putting more money down to reach that comfort level can be an option.
Another consideration is liquidity. Once a down payment is made and a mortgage issued, the equity in the property is no longer readily available for use. It’s in the home. Yes, one can get a home equity loan or a home equity line of credit, or HELOC, but it’s not like going to the bank and withdrawing the funds anytime you want. It can be an option however of making a large down payment and later taking out a HELOC and tapping into it as needed. It should also be noted that HELOCs can carry slightly higher rates compared to an existing mortgage.
A lower loan amount compared to the value of the property can also help someone qualify for a mortgage if they’re “almost there” in terms of getting approved for the selected mortgage.
Making a large down payment with existing funds can mean pulling cash out of an interest-bearing account. This might be as simple as a savings account but it can also mean pulling funds out of a retirement account that pays monthly dividends. This is a decision that needs to be made carefully and with the advice of a financial planner.
Paying down an existing mortgage later on won’t change the monthly payment if the loan is fixed. Adjustable-rate loans can result in a lower monthly payment. Your loan officer can help you with the math on this.
Finally, putting more money down than the mortgage program requires is a consequential financial decision. A large down payment is essentially tying up those funds in the home. Those same funds might better be used paying off existing debt such as student loans. Or finding a money market account or mutual fund that pays a steady return.
These financial decisions should be made together with your financial planner and loan officer. There are multiple considerations to be made, so don’t make these decisions without the advice of a professional.
Have questions? please contact us to learn more about any USDA, FHA or VA loan programs.