A down payment is one of the largest, upfront costs you’ll face when buying a home.
Understanding what a down payment is, when you’ll need one and how much to put down will help you get the most out of your mortgage.
What Is a Down Payment?
A down payment is a certain amount of money, expressed either as a percentage of the purchase price or as a flat amount, that is paid upfront for a good, service, loan or piece of property. When you buy a house with a mortgage, the down payment is the portion of the purchase price that you pay upfront, like a good-faith deposit on the home. The rest of the payment price is covered by your mortgage loan. The larger your down payment, the less you have to borrow from your lender.
For example, if you’d like to buy a $200,000 home and are eligible to borrow $180,000 from a mortgage lender, you’d make a down payment of $20,000 upfront. You’d then repay the lender the remaining $180,000, with interest, over time.
You’ll pay your down payment, along with other fees, when you close the loan. Because the down payment is a large amount of money, your lender will usually ask you to pay it with a certified check from your bank, a cashier’s check or a wire transfer.
What Is The Average Down Payment On A House?
According to HousingWire, the average down payment on a home in the last 5 years has been 5% – 7% of the purchase price. The publication also states that for the past 18 years, the average down payment has been below 10%. The average down payment took its lowest dip to 2.6% in 2009, most likely influenced by the Great Recession.
While 5% – 7% is the average, it doesn’t mean you must put that percent down on your own purchase. Depending on the type of loan you get, you may be able to put down less than 5% and you are always allowed to put down more than that – as much as you want.
How Much Should You Put Down On A House?
There are many factors to consider when deciding how much money to put down on a house. Of course, the type of loan you get will ultimately determine the least amount you can put down, as each loan has a minimum down payment requirement. But beyond that, how much should you put down on a house? Should you just make the minimum requirement?
One of the most important factors to consider is your financial situation and how much money you have for a down payment at the time you purchase the home. If you only have a certain amount saved for the down payment, don’t stretch yourself too thin trying to pay more. You don’t want to use all of your savings, borrow money or dip into other areas of your budget to make the payment. Another thing to consider is whether you want to pay private mortgage insurance each month or avoid that added expense. A bigger down payment has other cost-saving benefits as well. If you have the money to make a bigger down payment, it will be up to you to decide if you wish to save money upfront by making a smaller down payment or save more money over time by making a big down payment. If you need even more reason to do one or the other, consider other pros and cons of each type of down payment on a house.
The Big Down Payment
Making a big down payment can be scary, especially for first-time home buyers, but it may pay off in the end. Consider these pros and cons before deciding if it’ll benefit you more to put down a bigger payment upfront.
Pros of a Big Down Payment
A big down payment may seem like a ton of money leaving your bank account, and it is. But the amount of money you’ll be saving in the long run may be worth it. The benefits below show you how:
Lower monthly payments. A monthly mortgage payment consists of your loan balance, interest, PMI and escrow. The more you put down, the less you borrow, which automatically lowers your payment because you owe less. And the less you borrow, the less amount of money you’re charged interest on. Along with that, a bigger down payment typically affords you a lower interest rate. If you put at least 20% down, you will also avoid paying a PMI and, for some loans, you can also avoid a monthly fee that goes into an escrow account. Keep in mind that if you decide not to pay for escrow each month, you’ll still need to pay your taxes and insurance out-of-pocket and will be responsible for making that payment yourself.
Lower debt-to-income ratio. A lower debt-to-income ratio makes your debts more manageable and provides more money each month for you to enjoy, use for other obligations or weather a storm. It also provides you better borrowing power for other loans or future endeavors.
Less overall interest payment. With less money borrowed, the less interest you’ll pay and that includes over the life of the loan. You may also be able to pay your loan off sooner, which can save you months or even years of interest payments.
More equity in the home. Equity is the amount of your home value that you actually own, aka the unborrowed amount of your home value. For example, if your home is worth $250,000 and you have a mortgage balance of $125,000, you have 50% equity in the home or $125,000. The money you pay in a down payment adds to the equity in your home.
With more equity right off the bat the greater potential for a home equity line of credit. That’s because you’ll be able to build equity in your home faster, which you can then borrow from with this type of loan.
Cons Of A Big Down Payment
Saving money is great; but making a big down payment does have its drawbacks, too. For example, a big down payment can:
Prolong your home purchase. Since a big down payment requires more money, it may take longer to save up, which could delay your home purchase.
Drain other funds. You may be tempted to forgo taking the time to save the money when your emergency fund or other savings account is sitting there with money in it. If you pull from other places to make the payment, you could be shorting your other accounts. This can be a problem when you need to access those accounts for an emergency or home repair. Tying your available cash up in your home puts you at risk for going into debt if something unexpected happens.
Hit your finances hard. While a big down payment can save you money in the long run, it’s a big upfront expense. Your finances may take a bit of a hit – one you may feel for a few months.
Only provide some benefit. The money-saving benefits of a big down payment don’t happen right away. They’re more long-term, so if you don’t stay in the home for a long time, you may not even experience the full benefit of a big down payment.
The Low Down Payment
Some home buyers choose to make a low down payment while others needto make a low down payment to be able to afford the purchase of their home. Whatever the reason, putting a smaller amount of money down can be tempting with the advantages it provides. However, you need to consider the disadvantages of doing so.
Pros Of A Low Down Payment
Low down payments allow people to purchase a home who may not otherwise be able to afford it. There are other benefits, too. With a lower down payment you may be able to:
Purchase earlier. The less money you have to save, the faster you can get to your goal and the sooner you can buy a home.
Pay other mortgage expenses. Paying less on your down payment may provide funding for other mortgage costs, like the home appraisal and inspection, both necessary expenses that you’re responsible for paying out of pocket.
Better prepare for unexpected costs.With a lower down payment, you can save some of your money to keep in an emergency fund or to prepare for home repairs and maintenance.
Cons Of A Low Down Payment
A low down payment helps people afford a home sooner than they would with a big down payment requirement and may allow you to keep extra cash on hand for unexpected costs. However, there are a few drawbacks to making a low down payment. These include:
Higher monthly payments. As stated above, a monthly payment includes your loan balance, interest, escrow and PMI. When your down payment is less than 20%, you cannot avoid any of these fees. On top of that, you’ll typically pay a higher interest rate.
Higher DTI. Since you’ll be borrowing more money, you’ll have a higher DTI. This may cause some financial discomfort as you have more debt to deal with each month. It also gives you less future borrowing power, since the higher your DTI, the more of a risk you are to lenders.
Higher overall interest payment. With you borrow more money, there’s more money to be charged interest on. It may also take you longer to pay off your loan and, the longer you make payments on your loan, the longer you’re charged interest on it.
How Much Do You Need To Put Down On A House? (By Loan Type)
Every loan type has its own down payment requirements. These can vary by lender, as well. Your down payment also plays a role in other costs, like mortgage insurance. Here is how a down payment works with some popular loan options offered.
Minimum Down Payment On A House By Loan Type
Required Minimum Down Payment
Conventional mortgage loans, like a 30-year fixed and 15-year fixed, have guidelines set by government-backed housing finance companies Fannie Mae and Freddie Mac. These loans typically have stricter eligibility requirements than government-backed loans like FHA loans. With some lenders, a first-time home buyer can qualify for a down payment as low as 3%.
FHA loans are government-backed loans with guidelines set by the Federal Housing Administration. These loans have more flexible eligibility guidelines than others.
You can get an FHA loan with a down payment as low as 3.5%.
If you buy a home with an FHA loan, and your down payment is more than 10%, you’ll have to pay monthly mortgage insurance for the first 11 years. If your down payment is less than 10%, you’ll continue to pay MIP until you refinance to another loan type or pay off the loan.
Jumbo loans are mortgages for more than the loan limit, which varies based on location and property type. In most of the United States, the loan limit for a single-family home is $510,400.
Because these loans are for such large amounts, they require a larger down payment – usually at least 10% of the purchase price.
VA loans help veterans and their spouses buy a home. They are backed by the United States Department of Veteran Affairs.
A VA loan does not require a down payment, which makes it a great option if you are eligible for one.
Unlike a conventional or FHA loan, a VA loan does not require mortgage insurance with a smaller down payment. Instead, you will pay a funding fee to help support the loan program. VA funding fees are typically less than mortgage insurance, and you may be able to waive the fee if you’re receiving VA disability or are a surviving spouse. If you're a Purple Heart recipient serving in an active-duty capacity, you're also exempt from the funding fee.
USDA loans are available for homes in rural areas. They are backed by the United States Department of Agriculture.
When you get a USDA loan, you’ll also pay an upfront guarantee fee and an annual guarantee fee. These fees help support the loan program and are typically lower than the mortgage insurance you’d pay with a conventional or FHA loan.
What Is Down Payment Assistance?
If you could use a little help making your down payment, there are down payment assistanceavailable at a local and national level. These programs offer funding that reduces the amount of money you need to put down. The money comes from the government, nonprofits, unions or even employers or lenders. Some programs are more like loans or second mortgages you pay back (sometimes not until you move or refinance), while others are grants that you don’t have to pay back. How much you get will depend on the location of the home and the type of program you use. The eligibility requirements will differ from program to program as well. However, common eligibility requirements are typically a minimum credit score and a certain household income threshold that is based on the area’s median income.
Some programs are for specific groups, too. For example, there are specific down payment assistance programs for first-time home buyers or buyers who work in community service-type professions, like teachers, police officers or firefighters. Some programs even require the buyer to go through some sort of homeownership education. There are also sometimes requirements of the home. For instance, some programs may have a home sale price limit. For many programs, the home must be the buyer’s primary residence or a single-family home or condo.
There are down payment assistance programs across the country. For programs in your state, check out the FHA’s list of down payment grants for 2019.
Final Thoughts on Down Payments
Determining a down payment amount that is most suitable for your needs will greatly depend on what you can afford, when you want to begin the home buying process and what your other financial goals are. Take the time to determine what you feel comfortable paying and how you’re going to pay it. To learn more about down payments and have your questions answered, speak with a home buying expert today.