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Do You Have to Put 20 Percent Down on a New Home?

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Some hopeful homebuyers know they can afford a mortgage payment – in many cases it’s lower than rent – but struggle to come up with the down payment. Saving that much money is a challenge for most of us. In some metropolitan areas, average home prices are very, very high, requiring a down payment of at least tens of thousands of dollars. Nationally, the median price for an existing home is $192,800. Traditional 30-year fixed-rate mortgages require a 20 percent down payment, or $38,560 on that median-priced home. That figure does not include closing costs or any other related expenses, like moving or remodeling.

Alternatives to the 20 Percent Down Payment

Buyers gather their down payment money in different ways. Some cash out investment accounts while others receive gifts from family members. But even those unable to pull together that much cash have options.

FHA Loan

One of the most popular alternatives is the FHA loan, which is a loan issued by a traditional lender but guaranteed by the government. An FHA loan requires a down payment of just 3.5 percent (so for our median-priced home, only $6,748), but also requires payment of extra fees plus private mortgage insurance (PMI), typically rolled into the loan.

VA Loan

VA loans are guaranteed by the Veterans Administration and are available to qualifying veterans and surviving spouses. VA loans do not require any down payment at all, nor do they require PMI.

Piggyback Loan

Some buyers choose to make the down payment by taking out a second loan, called a piggyback loan. Common piggyback loans cover 10 percent of the purchase price, requiring the buyer to come up with 10 percent for a down payment and to finance the remaining 80 percent. Other piggyback loans cover 5 percent for borrowers who make a down payment of 15 percent. Piggyback loans allow the borrower to avoid PMI.

More Options for the Borrowers with the Best Credit

Borrowers with the best credit can obtain 100 percent financing from some banks, including Navy Federal and NASA Federal Credit Union. Other banks also offer financing for more than 80% of the home’s value to customers with significant assets held with the lender. Generally, those assets are held as collateral against a portion of the loan.

Does Size Really Matter?

Traditional wisdom in the past held that the larger a borrower’s down payment, the more invested he would be in the asset and the less likely to default. Research shows, however, that lower down payments are not correlated to a higher rate of foreclosure. In fact, credit score and credit history are much stronger indicators of future financial behavior and the likelihood of foreclosure. Banks have nothing to lose by offering loan programs to buyers with great credit but less cash on hand.

A higher down payment will, however, bring better terms. The lowest mortgage interest rates are offered to borrowers who meet the strictest underwriting guidelines – high credit score, 20 percent down, stable employment and so on.

On the flip side, lower down payments bring higher fees and interest rates, and PMI that in some cases covers the entire life of the loan. So the least cash flush among us are those who ultimately pay the most for the privilege of home ownership.

Your Options

Most lenders will only finesse one aspect of the qualification process. In other words, if you have a lower credit score, be prepared to make a larger down payment. Conversely, an outstanding credit score will open the door to a higher level of financing.  If you have average credit and a low down payment, expect to look at the FHA program and pay a higher interest rate and additional fees.

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