Mortgages Part 2: What is a down payment?

A house down payment is a percentage of the home’s sales price. Most lenders require some sort of a down payment up front before they’ll approve your mortgage. To the mortgage company, the larger the down payment a buyer puts down, the less risk it is to them. Therefore, a higher house down payment generally translates into lower interest rates.

While traditional conventional mortgage down payments should be 20% or more, very few people, especially first time home buyers, actually have the required 20%. With all the loan programs available, many people can actually get into their homes with just a few thousand dollars.

Some methods that will help you buy a home with less than 20% down:

• Government loans like FHA and VA loans
• Conventional lenders have loan programs that only require 10% or even 0% down
• Some lenders will offer you a 80/10 (or a piggy back) loan where you borrow two separate loans at 80% and 10% each to avoid paying a PMI
• Seller assist, which is having the sellers help you pay for part of your closing costs

Places where you can get money for down payment other than your bank and stock accounts include:

• Your IRA. If you're a first-time buyer you can pull out $10,000 penalty-free (although you will need to pay state and federal income tax on it) to put towards your home purchase. If you're not a first-time buyer, you will have to pay both the 10 percent penalty and income tax on an early withdrawal.
• Borrow against your retirement funds. But you need to check with both your lender and plan administrator to make sure that is allowed
• Have a rich relative? Money as a gift is allowed from immediate family members, churches, and nonprofit organizations. But there are also rules, so check with your lender first to find out what is required.
• Some states have first time home buyer programs that help you with down payment assistance

What is (Private Mortgage Insurance) PMI?

The reason why people with enough money saved try to pay at least 20% down is to avoid paying the PMI, or Private Mortgage Insurance.

It is an insurance policy for the mortgage company, paid by the borrowers, to guarantee that if the borrowers stop paying, the lender would get reimbursed from the insurance company. To clarify: The private mortgage insurance is not beneficial to you. It only protects the bank, but you HAVE to pay the insurance premium. You only need to pay for PMI if you are putting down less than 20% on your house.

Typically mortgage insurance per year is 0.5% - 1% of your mortgage amount. So if you get a $200,000 loan, it is approximately $2000 per year, or $167/month. Lenders will remove the insurance when you have paid off 20% of the loan, but usually not automatically. You probably have to request the PMI to be removed in writing, and sometimes an appraisal is needed.

What are closing costs?

There are other upfront costs associated with buying a house that typically adds up to 3%-5% of the price of house. That includes mortgage fees charged by your lender, mortgage tax and deed recording fees paid to the government, attorney fees, mortgage insurance, and upfront insurance and any applicable condo, co-op, and home owner association fees.

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