What is a down payment?
A down payment is the cash you pay upfront to make a large purchase—in this case, a home. The down payment covers a portion of the home’s purchase price, and you use a loan to pay for the rest of the house over time, with interest.
A down payment for a house is a percentage of the price, and this percentage varies by loan and what you can afford to put down. For example, a 10% down payment on a $350,000 home would be $35,000. When you apply for a mortgage, the down payment you can make is your contribution toward the purchase and your initial ownership stake in the home.
Do you really need a 20% down payment for a house?
We’re pretty sure you’ve heard that a 20% down payment is necessary to buy a house. Well, you can toss that notion out the window! It's not always necessary to have that hefty chunk of cash up front. There's a whole world of loan options that welcome much smaller down payments. This is fantastic news because it opens the door to homeownership for folks from all sorts of financial backgrounds. Let's be real—not everyone has 20% of a home's price tag just lying around in their savings!
So, what's the big deal with this upfront payment? Well, it directly impacts your mortgage amount and the interest rate you'll end up paying. If you opt for a conventional loan and put down less than 20%, you'll need to include a little extra for PMI, aka private mortgage insurance, in your budgeting plans. So, what’s the reason for PMI? When you put less money down, your lender is taking on more risk by lending you more money. PMI makes up for that extra risk by protecting the lender in case you stop making loan payments.
When you put less money down, your lender is taking on more risk by lending you more money. PMI makes up for that extra risk by protecting the lender in case you stop making loan payments.
But don't worry—PMI isn't a forever thing. Eventually, you can wave goodbye to it once you've built up enough equity.
Choosing a lower down payment option can certainly fast-track your journey to buying a home. However, if you can manage a higher down payment, you'll reduce the total amount you need to borrow, saving you interest over the life of your loan. So, weigh your options and see what works best for your financial situation and homeownership dreams!
Pros & cons of a 20% down payment
Let’s weigh the pros and cons of a 20% down payment so you can decide what’s best for your budget in the long run.
Pros of a 20% Down Payment | Cons of a 20% Down Payment |
|---|---|
Avoids Private Mortgage Insurance (PMI) | Requires More Upfront Cash |
Lowering the amount you need to borrow reduces the need for PMI, which can add to the monthly cost of your mortgage. | Saving up for a 20% down payment can be challenging and may delay the purchase of a home. |
Lower Monthly Payments | |
A larger down payment results in a smaller loan amount, which means lower monthly mortgage payments. | Tying up a large sum of money in a home can reduce your financial flexibility and emergency fund. |
Better Loan Terms | Opportunity Cost |
Lenders often offer more favorable interest rates and terms to borrowers who make a larger down payment. | The money used for a large down payment could potentially be invested elsewhere for a higher return. |
Increased Home Equity | Market Risk |
You start off with more equity in your home, which can be beneficial if home values decline. | If the housing market declines, you risk losing a larger amount of money due to having more invested in the property. |
Minimum down payment requirements by loan type
There’s a mortgage for almost every type of borrower, and each one has its own down payment requirements. Let’s go through some common types of home loans and how much of a down payment they require.
No down payment mortgage loans
While most types of mortgages require a down payment, some federal government-backed loans are exceptions to this rule.
VA loan
VA loans, for example, are for veterans, service members and eligible surviving spouses and usually don’t have any down payment requirements if the borrower has 100% of their VA loan guarantee benefit. That means it’s possible to buy your dream home and finance the entire purchase with a loan. You won’t even have to pay for PMI, but there is a VA funding fee that helps keep the program going.
USDA loan
USDA loans are another exception to the down payment rule. These loans, which are for low- to moderate-income borrowers buying in eligible rural areas, often don’t require a down payment. USDA loans also come with other benefits like reduced mortgage insurance costs.
3% down payment mortgage loans
Some loans offer a minimum down payment of 3%. However, if your credit score is lower or your debt-to-income ratio is higher, you may need to put down a larger amount.
Conventional loan
A conventional mortgage is a home loan that’s offered through a private lender such as a bank, credit union or mortgage company. Conventional mortgages are stricter than government-backed loans, but they offer some flexibility when it comes to the down payment. Although 20% is the standard, there are a lot of conventional loans, such as HomeReady and Home Possible, that may let you put down as little as 3% on your dream home if you meet certain credit score requirements and have a good handle on your debt. The downside to lower down payments? You’ll have to pay a little extra for PMI.
3.5% down payment mortgage loans
FHA (Federal Housing Administration) loans are favored by many buyers—especially first-timers—because of their flexible requirements, including lower down payments.
FHA loans
If you have a credit score between 500 and 579, you can put 10% down on an FHA loan. If your credit score is 580 or above, you can put down as little as 3.5%. If an FHA loan sounds like a good option, keep in mind that you’ll have to pay an upfront and an annual FHA mortgage insurance premium (MIP). The amount of your MIP will depend on factors like your loan term, your down payment and your LTV (loan-to-value ratio).
As low as 5-10% down payment mortgage loan
Jumbo loans are for borrowers who are purchasing a big-ticket home and need to finance a “jumbo” amount—more than $766,550, to be exact.
Jumbo loans
Jumbo loans typically require a higher down payment and have stricter credit requirements, including a credit score of 700 or more.
The exact down payment you need for a jumbo loan depends on many factors, including the lender’s policies and the type of property you’re buying. Many jumbo loans are available with down payments as low as 5%-10%, while others require 15% or 20% down.
Pro Tip
When it comes to saving for a down payment, sometimes “set it and forget it” is the best approach. Open a separate savings account just for your down payment, preferably a high-yield savings account which gives you a boost in earning interest, and fund it with automatic monthly transfers before the money has a chance to hit your wallet.
Benefits of a larger down payment
Putting more money down upfront may sting at first, but it could help you in the long run. Here’s how:
- Lower interest rates: A larger down payment often qualifies you for lower interest rates, which means you'll pay less over the life of your loan.
- Reduced monthly payments: By putting more money down upfront, your loan amount decreases, which shrinks your monthly payments.
- Equity boost: More money down means you start off with more equity in your home. This is great because it gives you a stronger financial cushion and more options if you ever want to borrow against your home down the road.
- No PMI: Typically, if you put down 20% or more, you can avoid paying PMI. This can save you hundreds of dollars each year.
- Stronger offer: In competitive housing markets, a larger down payment can make your offer more attractive to sellers. It shows you're serious and have the financial backing to close the deal.
How much should you put down on a house?
Deciding on the right amount for a down payment can be a bit of a balancing act. While opting for a larger down payment for a house can seem like the smarter choice, it's important to consider your overall financial landscape. For instance, it’s wise to keep some funds on hand for unexpected home repairs or renovations. Plus, you'll want to ensure you can comfortably cover your monthly expenses and any emergencies that might crop up.
Opting for a smaller down payment can be a good option to avoid the strain of becoming "house poor." Being house poor essentially means spending the majority of your income on mortgage payments, leaving yourself no wiggle room for anything else. In the end, it’s all about balance. The key is to find a sweet spot that allows financial flexibility and security.
Pro Tip
Talk to a lender before you make any assumptions about how much of a down payment you need—especially if you’re a first-time home buyer. For instance, some state and local governments offer down payment assistance programs to help offset those hefty upfront costs.
Other considerations to determine your down payment
When deciding how much to put down, consider additional expenses like closing costs, which typically range from 2-6% of the home’s purchase price. You also want to set aside some cash for the ongoing responsibilities that come with owning a home, like maintenance and repairs. Not as fun as decorating, but necessary.
Remember, the right down payment for you is one that fits your budget, allows you to have a financial cushion and makes your offer attractive to sellers.
Now that you know more about down payments, you can focus on the fun part: house hunting!
