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Mar 28, 2019

Preparing for a Mortgage Down Payment

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Starting the search for your first home can be a very exciting time. While you have likely dedicated countless hours to searching listings on your favorite real estate app, driving around town in search of for-sale signs, and possibly have even attended an open house or two, you should be prepared for the not-so-fun decisions of the home buying process – making the nitty-gritty financial decisions. 

Before you are caught off guard after finding the home you’re ready to build your life in, put your home search on a quick pause and make sure you are prepared for the largest expense needed at your closing – your down payment.

What Is a Down Payment? A down payment is your initial payment toward the purchase price of your home for what will not be covered by your mortgage. Whatever you put “down” becomes equity (the share of your home that you actually own) in your property.

While this may very well be the largest chunk of what you pay outright to purchase your home, you’ll also want to consider other large cash expenses associated with buying a home (like an inspection and closing costs) when determining a down payment amount that is realistic for your budget.

Let’s review what options may be available to you:

The Textbook Down Payment. You’ve likely heard that 20% is what is expected for a down payment on a home. When looking at a $250,000 home, that’s $50,000 out-of-pocket (plus somewhere in the ballpark of $8,000 in other closing costs). These upfront costs do come with some benefits. You won’t be subject to paying Private Mortgage Insurance (PMI), and you’ll pay back less in interest than if you were to purchase the same home with a lower down payment.

In today’s economy, the ‘standard’ down payment may no longer be realistic for many individuals. Thankfully, there are now many mortgage types offer low minimum down payment options to help you get into a home you love:

Other Mortgage Options. Many special loan programs offer low (or no!) minimum down payment options to help you get into a home you love including options available from the Federal Housing Administration (FHA loan), Department of Veterans’ Affairs (VA loan), and U.S. Department of Agriculture (USDA loan or rural development loan).

Many lenders with conventional mortgages are beginning to offer loan minimum down payment options. For example, Firefly offers a First-Time Homebuyer Mortgage that offers a 3% minimum down payment (leaving you with about $16,000 to save for a down payment and closing costs combine).

If you decide that a down payment of less than 20% is best for your situation, you will need to factor in PMI to the monthly payment. Depending on the loan program you choose, this insurance may be able to be removed once you reach 20% equity in your property.

Down Payment Assistance Programs. When looking into purchasing a home, it is almost impossible to go through the process without hearing about assistance programs. From government agencies, nonprofits, employers, and foundations, there are programs in every state. These programs can include grants, loans, tax credits, and other incentives to help potential home buyers secure a down payment faster.

To qualify for these programs, both the home and the home buyer need to be eligible. Common factors when determining one’s eligibility include the sale price of the home as well as the homeowner's income and history of homeownership. Your occupation can even help secure assistance depending on certain program criteria. Educators, veterans, health care workers and households with disabled members have programs of their own.

Gifts from Family. If you find yourself lucky enough to have a loved one offer to help cover the costs of your down payment, there are more steps involved than simply saying ‘thank you’ and moving forward. For starters, you’ll want to provide your lender with a gift letter from the donor that includes specific information about the funds (including that they are not expecting it to be paid back).

You’ll also want to check with your lender to verify the eligibility of the gift, as who can gift money and how much they can give varies by loan type or program. A word of caution - depending on the amount they decide to gift, the donor may be responsible for taxes. For all of these reasons, it is important to make sure all parties involved are aware of all the implications before proceeding.

What about Crowdfunding? Using a personal fundraising site to save up for your down payment is a possibility, though well-known sites (e.g. GoFundMe) may look for more of a “heartstrings tug” for fundraising requests. There are alternate crowdfunding sites specific to down payments that you can consider, too.

If you decide to go this route to help fund your down payment, make sure that whatever site you use is reputable and that you have fully researched any applicable transaction fees, payment-processing fees, etc.

Dipping into Your Retirement Account. While it should be a last resort, you may be eligible to borrow from your 401k to put funds toward your down payment. If you are considering this as an option, it is best to discuss your situation with your financial advisor and/or a tax advisor to review the pros and cons of this decision as well as rules for repayment, as they can change each year.

Regardless of how you plan to fund your down payment, it’s a smart idea to chat with a Mortgage Loan Officer as soon as you are considering buying. Even if you aren’t quite ready to take the leap into homeownership, they can help you run the numbers so you can limit your home search to properties that are a realistic fit for your current financial situation. While it is great to find a house you love, you want to be able to have the funds to enjoy your time there, whether that be completing home projects to make the space fit your style, entertain friends and family or, above all, have money to live comfortably. A reputable lending officer will not guide you into a situation that they believe will make you house poor.

Contents of this blog article are intended to provide you with a general understanding of the subject matter. However, it is not intended to provide legal, accounting, or other professional advice and should not be relied on as such. Information may have changed since the publication date.

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