Deciding how much of a down payment to make on a home is an important step in the homebuying process. The size of your down payment is a major factor in determining how much your monthly mortgage payments will be. Here are six of the most common down payment bloopers homebuyers sometimes make, along with some advice on how to avoid them.
Blooper #1: Too small of a down payment: While lenders commonly offer mortgages with down payments of less than 20 percent of the sale price, these loans require you to pay private mortgage insurance. PMI is an additional fee included in your monthly payment to help protect the lender’s interest in the property should you default on your loan.
A trade-off to some low- and no-down-payment loans is that they usually carry higher interest rates. These can cost you considerably more over the life of your loan. Conversely, a down payment greater than 20 percent may earn you a more favorable interest rate and save you thousands in the long run.
Blooper #2: Too large of a down payment: While common sense seems to dictate that the more you pay up front, the better off you’ll be, you need to consider how much you will need to cover closing costs and other expenditures for your new home. It is often customary, particularly for first-time homebuyers, to negotiate with the seller to cover some of your closing costs, but you want to make sure you consider the whole homebuying picture when deciding on your down payment.
Blooper #3: No down payment: Putting no money down when buying a home puts you in the position of having no equity in the property. Should the market change and the value of your home fall, and you find that you want or need to sell, you face the risk of owing more to the lender than your house is worth. If rates drop and you choose to refinance your mortgage in the future, you will need to have some equity in order to get the best deal.
Zero-down mortgage loans may be an effective strategy in certain situations, and these are common with VA loans in particular. These loans may, however, come with a higher interest rate and therefore a larger monthly payment.
Blooper #4: Not having “seasoned” funds: Your down payment could be a substantial amount of money you may not readily have in the bank, and sometimes receiving a gift from a friend or family member can help pull the funds together. Whether you have the funds already in the bank or are receiving a gift, you should be able to show that they are “seasoned” funds, meaning they have been in your bank account for longer than two months.
If your bank statements indicate a large cash deposit that is less than two months old, your lender will require an explanation of where those funds came from and whether they’re gifts or loans. Most mortgage companies will not allow you to receive monies toward your home purchase that must be paid back; they must be a gift. The friend or relative who is gifting you money may need to provide a letter to the lender indicating that they are in a financial position to offer the gift, and that it is in fact a gift and does not need to be paid back.
Blooper #5: Incorrect form of payment at closing: You will need a cashier’s check at closing for payment of your down payment and closing costs. Your lender and closing attorney will let you know ahead of time exactly what the final total will be so you can obtain a cashier’s check for that amount. In the case of any discrepancies, a personal check can be written for a small amount to adjust for the difference.
Blooper #6: Ignoring your debt comfort level: The worst thing you can do is lock yourself into a mortgage that costs more per month than you can comfortably afford to spend. No one knows better than you how much debt you can handle, so trust your instincts. If you prefer to pay as much as you can at the start and have the benefit of lower monthly payments, do it, but be sure this is right for you before signing on the dotted line.
If you have any additional questions about buying a home, down payment options, closing costs, or anything else, don’t hesitate to contact me. You can reach me by phone or text at (302) 598-6896, or by email at email@example.com.