3/24/2023
Mortgage loans are known for their extensive paperwork and demanding requirements. Among the many terms you should be familiar with is down payment, which can be summarized as the portion of the home's value that you contribute from your savings.
But although it may seem simple, this term has different implications when it comes to taking out a mortgage loan in the United States. Here we explain it in more detail.
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What is the down payment on a mortgage loan?
The down payment corresponds to the part of the price of a house that you pay upfront and comes out of your pocket. While in the past the recommendation was 20% of the total value of the property, that has changed.
Nowadays, it is common to put down less, although the bank usually asks for private mortgage insurance (PMI), which increases the cost of financing.
The mortgage credit facilitators call LTV (loan-to-value or loan-to-value ratio) the percentage of the value that they finance, which can reach up to 100%, and even exceed it if more money is required to buy furniture or carry out reforms.
This reference is important because it indicates the maximum amount that a financial institution will give you to buy a house.
Advantages of providing a higher down payment
The higher the down payment you contribute from your savings, the easier it is for your application to be approved and for you to obtain better conditions, such as lower rates and less commissions.
In addition, there is a trade-off between the down payment and your credit score. If you have bad credit but make a high down payment, it is more likely that your application will be accepted, since the bank assumes less risk. Likewise, if you have a high credit score, you can afford to put down less down payment.
It is well known that down payment is often the biggest difficulty for first-time buyers. This sometimes forces them to choose a mortgage with less demanding requirements, which could imply the payment of insurance. This is normal when you put down less than 20%.
How much is the minimum down payment for a home?
This will depend on the price of the property, the type of property and the mortgage plan. It usually goes from 0% to 20%, but it can be higher depending on the property and the buyer's possibilities.
Here are some examples:
Jumbo loans
These mortgage loans are aimed at luxury home purchases sought by a minority. Although they usually ask for a down payment of 10%, it can be over 20% based on the price, your credit history and the lender's conditions.
Conventional mortgages
Conventional mortgages are backed by Fannie Mae and Freddie Mac, which makes them less demanding. While for most homes the minimum down payment is 3%, pre-manufactured homes, duplexes and condos require 5%.
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For these mortgages, if you want to put down less than 20%, you must take out private mortgage insurance (PMI), which offsets the higher risk assumed by the bank but is a higher cost to the buyer.
Government backed mortgage loans
The mortgages that require the least down payment are those supported by the government, such as FHA, USDA and VA (military).
- If you are eligible for a USDA mortgage, you can get 100% LTV.
- Those who are eligible for a VA loan can also get 100% LTV.
- Those using an FHA loan can put 3.5% down if they have a score of 580 or higher. Those below that score must put at least 10% down.
This kind of financing also requires you to pay some sort of insurance premium or a guaranty amount. For VA, this is known as a funding fee; for USDA, there are the annual fees and the upfront guarantee fee; for FHA you must pay mortgage insurance premiums (MIP), which are upfront and annually.
The lowest down payment you can afford
When doing the math for a home you are interested in, you can start with the 28% rule. This means that you should not spend more than that percentage on your monthly mortgage payment.
For example, if your net monthly income is $2,000, you would have to invest a maximum of $560 in the monthly payment that you will pay each month, which includes the principal, interest and the corresponding insurance, if it is also financed.
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The usual recommendation is that you try to make a down payment of at least 20% of the value of the house. This is a good benchmark to aim for because you avoid the PMI expense, get more favorable terms and pay less in the end.
However, if you do not have sufficient savings, you have no choice but to reduce the down payment. As you have seen, there are low down payment mortgages that give you 96.5%, 99% or even 100% financing. The most important thing is to do the math so you can manage your mortgage payments.
Español: ¿Qué es el down payment o enganche en una hipoteca?