Buying a home is a milestone worth celebrating, but it takes planning and preparation before signing the closing documents to ensure the purchase doesn’t become more of a burden than a blessing. Proper planning involves determining how big of a down payment you need and saving money for that down payment. Here are some pointers to get you started.
Determining your down payment amount
Traditionally, the standard down payment lenders require for financing a house is 20 percent. Liz Knueven of Business Insider explains that this is to help you as the homeowner avoid having to pay private mortgage insurance. “[This] extra monthly payment that can cost 0.3% to 1.2% of the loan's principal balance. Banks charge PMI to borrowers who put down less than 20% to get some protection should the borrower stop making mortgage payments.”
If you’re buying a $160,000 house, a 20 percent down payment would translate to $32,000 — which is a lot more than most first-time homebuyers can afford.
However, 20 percent is not necessarily required to buy a house if you’re willing to pay a little extra on your monthly bill due to PMI. Plus, you might qualify for a lower down payment depending on the type of loan you’re receiving and your credit history.
Hal M. Bundrick, CFP and contributor to NerdWallet, points out that you may be able to take advantage of low-down-payment loans or assistance programs. Loans that are backed by third parties give financial institutions the security to allow first-time homebuyers to supply a lower down payment. For instance, the Department of Veterans Affairs offer VA loans, the Department of Agriculture offers USDA loans and the Federal Housing Administration offers FHA loans — all which allow down payments far below 20 percent. These still may entail extra fees, but oftentimes these can be rolled into your monthly payments, so you don’t have to fork over as much money up front.
The many costs of buying a house
Keep in mind that a down payment isn’t the only cost you’ll be paying to obtain a house. Purchasing a house entails an array of other fees that you might not have anticipated. A down payment is just one of the many costs you’ll need to budget for when saving for a house.
Jeremy Vohwinkle of The Balance identifies some of the most common fees:
- Fees paid to the lender for the loan arrangement, such as the origination fee, application fee, and underwriting fee
- Fees for title requirements, like title search and title insurance
- Home inspection, survey and appraisal fees
- Home insurance and property tax dues, which could go into your escrow account
- Various processing, commission, and service fees
Some of these fees will be due on your closing date, while others will be due throughout the application process or right after closing. When you’re saving money, make sure you have enough in your financial accounts to cover these and any other unexpected costs.
Down payment when moving to a new house
Once you’ve outgrown your starter home and plan on moving to a larger abode, you will still need to put a down payment on your next house. However, instead of paying out of pocket like you did for your first home’s down payment, you’ll be able to cover this down payment with the money you’ll make selling your first home.
Because you likely won’t sell that first home until moving into your new home, though, Dave Ramsey and his financial experts recommend taking out a bridge loan. “A bridge loan allows you to tap into the equity of your current home to pay the down payment on your new home. It functions as a short-term loan that is to be repaid quickly.” This quick loan will let you make a large down payment on your new house and then immediately pay it off when your old house sells.
Big or small down payment?
Choosing how much to put toward a down payment depends on your financial situation and what you think you can afford. A larger down payment could constrict your finances initially when you may need to spend that money on moving and home improvement costs, but it lowers the amount you’re mortgaging and translates to less paid in interest and insurance over the life of the loan. A smaller down payment leaves more funds in your account now but will cost you more over the course of the loan due to the higher principle.
Whichever amount you choose to contribute to a down payment on a house, make sure you start saving now to be in the best financial state when it comes times to seal the deal.