Home prices rise and fall with changes in economic and market conditions. In the immediate aftermath of the pandemic, they spiked in the immediate aftermath, driven by an unfortunate convergence of home-building slowdown during pandemic and a surge of people who moved in with loved ones moving back out to be once more on their own. Low supply met high demand, and the market laws did their thing. The median home sales price in America was $428,700. That’s a lot of money.
When discussing what you should be willing to pay, most experts in home buying recommend that prospective homeowners make a down payment of about 20 percent of the home’s total value. If you have a cool $85,740 in the bank to make this down payment, you’re very fortunate, putting you well ahead of most Americans.
Many Americans most Americans, given that 69 percent of adult Americans have $1,000 or fewer in their savings accounts, can’t afford a high-five-figures cash payment. So, if that sounds like you, does that mean homeownership will forever be out of reach? Fortunately, that isn’t the case. Lending institutions, such as banks and credit unions, can indeed offer mortgage options that don’t need a major down payment. In this article, we’ll look at the pros and cons of low-down-payment mortgages and some of the different types that might be available to you.
Why Do You Need a Down Payment for Your Mortgage?
To understand the various types of low-down-payment mortgages, it’s important first to understand the purpose of a down payment. For the lending institution handling your mortgage, a down payment is a sign that you’re trustworthy and have the means to come up with the necessary money. They’ll be more likely to consider you someone with whom they want to enter into a long-term contract worth hundreds of thousands of dollars. You, the homebuyer, the benefit of a down payment can feel a little less obviIt mentally saves you tons of money on your mortgage by reducing the amount you need to borrow by convincing your lending institution to o you better interest rates. The more you pay upfront, the less you’ll pay in the long term.
With that in mind, let’s look at the benefits and drawbacks of low-down-payment mortgages.
Pros and Cons of Low-Down-Payment Mortgage
Pro: It’s Easier to Manage on Your Budget
Riddle us this, which is easier to fit into a budget, a $12,000 expense all in one month or making repeated $400 payments over the course of three years? Obviously, paying lots of money all in one go is hard. Most of us don’t save up anywhere close to the amount of money that some real estate agents recommend you put down.
Replacing a lump sum with installment payments is much easier to fit into your budget, plain and simple.
Con: You Pay More in the Long Run
Compound interest doesn’t work like most laypeople think it does. If you take a $400,000 mortgage out with an interest rate of 5 percent, you might think that you’d pay a total of $420,000, but in reality, you’ll pay much more than that.
Because of how compound interest works, reducing your initial purchase price means you can save multiple times that amount over the lifecycle of your loan. For instance, using a mortgage calculator, we can see that a $400,000 home with an interest rate of 5 percent and a loan term of 30 years with a down payment of $20,000 (5 percent) will wind up paying a total of $734,000 when all is said and done. With a 20 percent down payment of $80,000, you would instead pay just $618,000 saving more than $100,000 despite paying $60,000 more initially.
Pro: There Are Many Options for Low-Down-Payment Mortgages
Banks and credit unions often take advantage of programs that are administered or subsidized by other organizations, usually run by the United States government.
A few of these include loans through the Veterans Affairs agency, the US Department of Agriculture, and the Department of Housing and Urban Development’s Federal Housing Administration. This means that low-down-payment mortgage options may perfectly fit you and your desire.
Cons: There May Be Strings Attached
Unfortunately, despite there being several options for low-down-payment mortgages, not all of them may apply to your situation.
- VA loans: As the name suggests, they are only available to veterans of the American armed forces and their families. However, if you are a veteran, you can take advantage of these loans, which usually have very small funding fees attached to them.
- USDA loans: While you don’t need to have served to take advantage of these mortgages, they exist to spur investment in properties in rural areas, so if you’re dreaming of buying a condo downtown in a trendy city, you might be out of luck. Still, the USDA describes any town with fewer than 10,000 people as rural, so you have more flexibility here than you might think.
- FHA loans: This program was specifically designed for first-time homebuyers, so if you’re looking for a second or third home, look elsewhere. Also, the FHA loans have a maximum cap on what you can borrow so that you may be limited to smaller, more affordable properties.
Pro: Lending Institutions Will Work With You to Fit Your Budget
The reality is as much as lending institutions want to make a profit on their loans (and they do), they also want to help people find the homes of their dreams and are very aware that not all Americans can afford tens of thousands of dollars in down payments.
To that end, many banks and credit unions, such as Solarity Credit Union, offer low-down-payment mortgage options for those needing them. While these may come with higher interest rates or other conditions, those are much easier to fit into a monthly budget, and the result is that you get a home of your own. Reach out to a lender today to find out what your options are.
Cons: It will Create Immediate Inequity
One of the major issues with the low-downpayment mortgage is the huge discrepancy between the present worth of a home and the reimbursement of the mortgage debt put on the item. This is especially evident in regions where the cost of real estate has risen considerably in the time since the house was purchased, meaning there may be thousands of dollars at stake.
The challenge for homeowners in this scenario is that they cannot capitalize on any appreciation in their home’s value because they still owe more than what it’s currently worth. If they were to try and sell their home without paying off the balance owed on their mortgage, they would end up with less money than if they had put down more money at closing.
Pros: It will Help to Save more and Buy a New House
Home purchasing is one of the largest financial decisions many individuals will make. In order to make it easier, some lenders offer buyers the opportunity to purchase homes with a small down payment or even a zero down payment. There are several reasons why lenders offer this option to buyers, aside from just making money off the loan itself.
One of the major benefits for those offering small or no down payments is that it affords borrowers more opportunities to buy a home than they would have otherwise had. For example, if an individual has limited funds available for their down payment, they can still buy a house by taking advantage of these options. This allows individuals who may have yet to be able to get approved for traditional mortgage loans due to lack of funds or other circumstances to gain access to homeownership.
Cons: Burden in the form of Mortgage Insurance
Mortgage insurance is an additional cost that can add up to a large amount over the life of a loan for a low-down payment mortgage. It is paid either upfront or as part of your monthly mortgage payments. Although it can provide extra security for borrowers, it may not be worth the added cost in some situations.
When you take out a mortgage loan, lenders require buyers to pay for mortgage insurance if their down payment is less than 20 percent of the home’s purchase price. This provides lenders with extra assurance in case the borrower defaults on their payments or goes into foreclosure. Paying for this insurance adds to the total cost of your monthly mortgage payments and can add up over time, especially if you are already dealing with tight finances.
Pros: Can Enjoy More Mortgage Benefits
Your loan-to-value (LTV) ratio is essential in determining your mortgage’s cost. By down-payment mortgage, your LTV will decrease, and this could lead to lower interest rates and other advantageous terms.
For instance, with a lower LTV, lenders may be more likely to approve your loan application or offer flexible repayment options if necessary. Additionally, having a smaller down payment could mean paying private mortgage insurance (PMI), which would add a significant amount to your monthly costs. By increasing the initial amount you put down on your home purchase, you can avoid this extra expense while securing better terms on your mortgage overall.
Cons: Decrease Your Arbitration Power in Seller Market
Buying a home in a seller’s market is exciting, but it also poses many challenges. One of the most important things to understand when purchasing real estate in a sellers market is that using a small down payment mortgage can significantly weaken your negotiating power. Buyers must recognize this fact and take steps to ensure they can get the best deal possible on their new home.
A small down payment mortgage often prevents buyers from competing with cash offers, which are typically more attractive to sellers because they are less risky and require less paperwork. This means that buyers should consider other financing options or save up additional funds for their down payment to compete with cash offers. Additionally, having a larger down payment allows them to ask for better terms on their loan, such as lower interest rates or longer repayment periods.
Low-down-payment mortgages can be a great option for those who don’t have the resources to put down a hefty sum upfront. However, it’s important to keep in mind that these loans come with higher interest rates and additional insurance costs. Ultimately, it’s up to you to decide whether this type of mortgage is right for your financial situation. Take the time to weigh the pros and cons and consider all of your options before making a decision.