Fast & Easy Explains a Down Payment
FEBRUARY 4, 2019
Fast & Easy Explains a Down Payment
A down payment is an upfront payment you make to purchase a home or other asset. The down payment is the portion of the purchase price that you pay out-of-pocket (as opposed to borrowing). A down payment is usually referenced as a percentage of the sales price. In most cases, the money for a down payment comes from your own personal savings.
The Down Payment Amount
The ideal amount for a down payment is 20% of the home’s purchase price. Since it is a percentage, 20% of a down payment varies depending on the price for a home. For example, the 20% down payment on a home selling for $500,000 is $100,000. Meanwhile the 20% down payment for a home selling for $800,000 is $160,000. If you do not have the 20% down payment for the home you wish to purchase, you may still make an offer on the home with a smaller down payment. Some mortgage lenders such as Fast & Easy Loans offer programs with down payments for as little as 3%.
Benefits of a Larger Down Payment
A large down payment amount allows you to borrow less, which will make both your monthly mortgage and interest rates lower. Not only will it save you money (especially in the long run) but a lower mortgage and interest rate will give you more flexibility if your income changes at any time in the future. Mortgage lenders require a debt-to-income ratio of 43%. That means the debt must be less than $43 for every $100 that you earn. Since a larger down payment allows you to borrow less from the lender, you automatically make it easier on yourself to meet the debt-to-income requirement.
By offering a large down payment amount, you may also save yourself the extra cost of PMI. PMI stands for private mortgage insurance and is a required monthly payment by the lender if the borrower offers less than the ideal 20% down payment for a home. You will save yourself more money in the long run if you choose to offer a more money now.
A larger down payment also demonstrates a track record of saving and that you are putting more personal cost into the property. This gives you more credibility to make payments on time in the eyes of the mortgage lender.
Benefits of a Smaller Down Payment
There can be several situations in which a smaller down payment would make sense. For instance, if you have enough money saved for a larger down payment, but do not wish to use it all or have other investment plans for it, you can offer a smaller down payment. Or, if you wish to save some money for emergency reserves, a small down payment could be a method of maintaining your reserves.
A smaller down payment also has the immediate benefit of not requiring the borrower to put up so much of their own money. By offering a smaller down payment, the borrower may also be able to purchase a home quicker than if they had waited to save for a larger down payment.
Other Costs to Consider
When deciding how much money to put for a down payment, remember that you will have more upfront costs than the down payment. There are also closing costs and home inspection fees to consider when deciding how much money to put for down payment.
It is also important to know the that you will not pay the entire down payment at once. You will pay the down payment in two installments. The first installment can be around 1-3% of the purchase price, and is used as earnest money. Earnest money is money paid to confirm a contract. In this case, your money is held in escrow by a neutral party until the deal for your home is finalized. You will pay the second half of your down payment at closing, when the deal is finalized.
Another cost to consider is PMI. PMI stands for private mortgage insurance and it is required by all mortgage lenders if a borrower puts less than a 20% down payment. The cost of private mortgage insurance changes depending on how much a borrower puts for a down payment and the borrower’s credit score.
What if the Deal Falls Apart
There is a chance that the deal could fall apart before closing, and if it does it is important that you know.
If the deal falls apart before closing, you may or may not be able to reclaim your money. If the deal closed because you backed out, you lose the money. However, if the seller takes the house off the market or if the building inspection turns up a major issue you didn’t know about, you may get your money back.