By Ami Shah, Flyhomes Mortgage
The idea of buying a home with less than 20% down may seem taboo, but in today’s real estate market it doesn’t have to be. In fact, it may actually be beneficial.
There are good reasons to make at least a 20% down payment if you can do so comfortably. It reduces how much you’ll be borrowing, so your monthly payments will be lower, and smaller monthly payments make it easier to qualify for a mortgage in the first place.
The most-talked-about reason to put at least 20% down is to avoid private mortgage insurance (PMI). Many homebuyers see PMI as an unnecessary monthly expense, but there are reasons it may make sense to accept this expense in exchange for making a lower down payment.
3 reasons PMI can be a worthwhile expense
1 – If you’re finding it difficult to save 20% down, PMI can be a great tool to get your foot in the door of a new home. Once you close, you’ll start to build equity in the home and reap other financial benefits of homeownership such as tax deductions.
2 – A lower down payment is a great option if you’re trying to set money aside for renovations and other big expenses. If you’re buying a home that needs a little TLC, you may want to retain more liquidity so you’re not strapped for cash once you’re in the home.
3 – The most surprising benefit—and one of the best kept secrets of lower down payments—is that you might actually qualify for better terms on your mortgage because of the cost for a lender to sell a mortgage loan.
The effect of better terms
In a recent change implemented by both Fannie Mae and Freddie Mac (the largest purchasers of conventional loans) the cost for a lender to sell a loan with a 20-25% down payment can be higher than selling a loan with less than a 20% down (or a loan with over 25% down).
Most lenders will pass this cost on to you which could mean either a higher interest rate or higher closing costs.
For example, on a $700,000 purchase price, it’s possible to save up to $1,487 as a credit against your closing costs by putting down 15%. You’ll pay about $49.58/month in PMI, so it will take you 2.5 years to spend the $1,487 you saved, giving you more liquidity over that time.
Plus, PMI is a temporary expense that you won’t pay forever.
Now you can see how much the benefits of a lower down payment may outweigh the costs. Between getting a better interest rate, freeing up cash for other things, and the ability to lower your savings target, you shouldn’t be scared away from looking into the details of making a lower down payment. Your lender will help you make the best choice for your specific scenario.
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