Budgeting. Pinching pennies. Monitoring spending habits.
Anyone who is considering a home purchase knows that keeping an eye on your finances is key when determining what you can afford and where you focus your energy during the home search. But while you may have calculated your monthly payment down to the penny, it’s important not to forget that other looming cost: the down payment.
For many people, having to save for a down payment is often seen as the biggest obstacle to homeownership. Historically, many lenders have required down payments of 20% or more, but thankfully, today’s buyers have access to several options that can make saving for a down payment a little less scary.
What Is A Down Payment?
First thing’s first – what is a down payment? This is the part of the purchase price of a property that the buyer pays in cash and does not finance with the mortgage.
Let’s imagine a buyer is purchasing a $300,000 home with a 20% down payment.
In this example, the 20% down payment – $60,000 – would be paid up front by the buyer, while the remaining 80% – $240,000 – would be financed with a mortgage and paid back to the lender over time.
There are several reasons why down payments are requested by lenders
- Saving for a down payment requires discipline on the part of the borrower. It shows that they are capable of prioritizing finances and save appropriately. This is an indicator that the borrower will be likely to spend wisely in the future, meaning they will be less inclined to default and more inclined to save for household incidentals and repairs.
- Down payments help borrowers stay afloat when the market ebbs and flows. While home values have recently been on the rise, there are points when values will dip. If the market falls, say, 10%, someone who paid 20% down will still retain value in their home. On the other hand, someone who paid 5% will now owe more on the house than what it’s worth, putting them into a financial bind.
- Down payments help protect lenders in the event of loan default. If a borrower defaults on a loan, the lender will need to sell the home in order to recoup the balance of the mortgage. If the borrower paid a larger down payment, the lender could theoretically sell the home for less than the full value and still cover the outstanding balance of the loan.
Pros and Cons of Higher Down Payments
Now you may be wondering “if I don’t HAVE to pay a 20% down payment, why would I?”
This is a valid question. Ultimately, the decision would be based on what works best for your financial situation (if you need help reviewing this, one of our Loan Officers would be happy to guide you!), and what is required by the specific loan program that you are seeking. After a review of your financial position and future goals, you can make the determination of what works best for you.
How does a higher down payment stack up against a lower one in the short term? Let’s take a look.
As you can see, each has their own benefits, so it’s important to discuss your financials with a Loan Officer to determine how best to proceed.
There are also long-term implications when deciding what amount of a down payment to pay.
Let’s look at an example of how placing 20% down vs 10% down can impact your payments over the life of a loan.
After 30 years, a borrower who placed 20% down saved about $30,000 in interest. In addition, the monthly payments toward the loan are lower, freeing up some additional cash flow during the year.
Down Payment Assistance Programs
All the talk about saving for a down payment may make your head spin, but don’t worry – there are many programs out there that aim to assist borrowers with paying the down payment. Down Payment Assistance, or DPA, programs vary by location and can come in many forms, anything from employer-paid funds to state grants. Most programs have some sort of requirement in order to participate – for example, attending First Time Homebuyer Education classes – so it’s important to check what needs to be done ahead of time.
Service First has branch locations located in Texas and Arizona, so our Loan Officers are well versed in available programs and their requirements. However, a quick overview can be found below:
“Down Payment” may have been a four-letter word in the past, but after realizing how the payment impacts your mortgage and financials, hopefully it is a little less scary.
If you’re ready to get started on your home buying journey, we can help!
Contact us today!