What is a down payment?
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When you start thinking about buying a house, you’ll need to think about how much you can contribute to the purchase. That portion is called a down payment.
What is a down payment on a house?
A home down payment is the part of a home’s purchase price that you pay upfront and does not come from a mortgage lender via a loan.
Suppose you want to buy a house priced at $300,000. If you were to put $9,000 toward the purchase price, or 3 percent down, you’d take out a mortgage for the remaining $291,000. If you were to put down $60,000, your down payment would equal 20 percent of the purchase price, and your loan would be for $240,000.
Mortgage lenders often refer to the percentage of the purchase price that they finance as a loan-to-value ratio, or LTV. Using the above examples, here’s how that looks:
- When you put $9,000 down (3 percent) on a $300,000 home, your LTV ratio is 97 percent.
- When you put $60,000 down (20 percent) on a $300,000 home, your LTV ratio is 80 percent.
LTV is important because it’s how lenders describe the maximum loan they’ll make.
What is the minimum down payment on a house?
The minimum down payment on a house depends on the mortgage program, the type of property you buy and the price of the home. In some cases, you might be eligible for a loan that doesn’t actually require a down payment at all. In other cases, you might need to put down more than 20 percent of the purchase price.
Conventional down payment requirements
Most conventional loans allow for a smaller down payment – as little as 3 percent of the purchase price if you have great credit – thanks to the backing of Fannie Mae and Freddie Mac, the two government-sponsored enterprises that buy loans from mortgage lenders.
To compensate for the risk of this low down payment, however, the borrower is required to pay for private mortgage insurance, or PMI, when they put less than 20 percent down. Those PMI payments will continue until you have accumulated 20 percent equity in the home.
Down payments on government-insured loans
Some of the mortgage programs requiring the smallest down payments are government-backed loans: FHA, VA and USDA.
- FHA loans require 3.5 percent down for borrowers with credit scores of 580 or higher. Borrowers with lower credit scores (500 to 579) must put at least 10 percent down.
- Eligible VA loan borrowers can get mortgages with zero down (100 percent LTV).
- Eligible USDA loan borrowers can also borrow 100 percent.
Government-backed loans require borrowers to pay for some form of mortgage insurance, as well. For VA loans, it’s called a funding fee, and for USDA loans, there’s an upfront guarantee fee and then annual fees. With FHA loans, it’s called MIP, or mortgage insurance premiums, which are paid upfront and then annually. A key difference of MIP versus PMI is the fact that it is typically due for the entire life of the loan; there’s no good news once you’ve reached 20 percent equity.
This insurance covers potential losses suffered by mortgage lenders when borrowers default. Because insurance protects lenders from losses, they’re willing to allow for a low (or no) down payment.
Down payments on jumbo loans
Jumbo loans, which are mortgages for higher amounts, typically require a down payment of at least 10 percent. Some lenders ask for 20 percent or even more, depending on your credit and the value of the home.
How to choose the best down payment for you
Putting a large down payment comes with plenty of perks, but it’s not necessarily the best decision. Consider the pros and cons as you crunch the numbers for a home:
Benefits of a large down payment
- Smaller monthly payments: Making a bigger payment upfront translates to smaller payments each month. For example, consider the difference between 3 percent down and 20 percent down on a $400,000 home. With a 5 percent interest rate, Bankrate’s down payment calculator shows that the bigger down payment results in a mortgage payment that costs around $365 less each month to cover the principal and interest.
- Lower lifetime interest charges: Those smaller monthly payments add up to significant savings in the long run. In that $400,000 home example, a 20 percent down payment would save more than $63,000 over the course of a 30-year mortgage.
- Potentially better terms: Lenders like to see larger down payments. By putting more of your own money into the transaction, you’re borrowing less of theirs, which can put you in the running for the lowest rates possible.
- Ability to skip PMI: If your down payment is 20 percent on a conventional loan, you won’t have to deal with the additional monthly fee of mortgage insurance.
Drawbacks of a large down payment
- Potential to stretch your savings too thin: If you’re draining nearly all your savings to make a bigger down payment, you’re putting yourself in a precarious position as a new homeowner. What happens if you need to cover an emergency cost such as buying a new car or fixing an issue on your new home in the next six months?
- The need for more time to save: You might be tempted to keep saving up money to make a bigger down payment, but that strategy can backfire. While you’re trying to cut every expense, home prices might still be rising at a pace you can’t keep up with. Think about the housing market over the past two years: What added up to a 20 percent down payment on a typical home in early 2020 is a much smaller percentage today in many markets due to record-high home prices.
Bigger vs. smaller down payment example
Generally speaking, a larger down payment can make it easier for you to get approved for a mortgage and allow you to buy more house for the same monthly payment, or even less. You might also get a lower rate and lower mortgage insurance premiums (if any). Here’s a breakdown of a 30-year mortgage with a 5 percent interest rate, using data from Bankrate’s mortgage calculator and mortgage insurance estimates from Freddie Mac’s PMI calculator:
|Home price||Down payment||Monthly principal and interest||Monthly PMI||Total monthly payment|
Note there is a trade-off between your down payment and credit rating. Larger down payments can offset (to some extent) a lower credit score; higher credit scores can offset (to some extent) a lower down payment. It’s a balancing act.
For many first-time buyers, the down payment is the biggest obstacle to homeownership. That’s why they often turn to loans with smaller minimum down payments. Many of these loans, though, require borrowers to purchase some form of mortgage insurance.
However, mortgage insurance is not necessarily a bad thing if it gets you into a home and starts you on the road to building equity. Consider this: If you were to save $250 a month, it would take you more than 12 years to accumulate the $40,000 needed for a 20 percent down payment on a $200,000 house. That’s a long time to keep renting just to save up the money. Plus, by the time that 12-year period is up, that $200,000 house is going to cost a lot more.
Do you need to put 20 percent down?
No. The 20 percent figure stems from the fact that for some types of mortgages, if you put down less than 20 percent, you’ll need to pay for mortgage insurance. This isn’t necessarily a downside — the insurance increases your monthly mortgage payment, but typically only until you reach 20 percent equity in your home (in other words, pay down the balance on your mortgage).
How much is the average down payment in 2022?
Among repeat homebuyers, the median down payment was 17 percent in 2021, according to the National Association of Realtors (NAR). For first-time homebuyers, though, that median down payment was just 7 percent. Down payments vary widely depending on where you buy, too.
How to pay a down payment
There are many ways to come up with a down payment to buy a home. For repeat buyers who have positive equity in their current home, it’s often the proceeds from selling that home that helps make a down payment on another one. Other sources include:
- Selling assets like cars, collectibles, crypto, mutual funds or stocks
- Borrowing against a 401(k) retirement plan
- Down payment assistance (DPA) programs from employers, nonprofit organizations and government agencies
- Gifts from family members and friends (28 percent of first-time buyers used gift funds to help cover part of their down payments in 2021, according to NAR)
Some down payment sources, however, are not allowed by lenders. These include loans or gifts from anyone who would benefit from the transaction, such as the home seller, real estate agent or lender.
How to save for a down payment
If you plan to buy a home soon, one of the best savings strategies is to keep those funds safe while earning some return, such as in a high-yield online savings account.
If you know you won’t be buying a home for a few more years, you might want to consider investing your savings, such as in a CD. These could help you grow your savings a bit faster, but also could put your money at risk. When weighing your options, consider how soon you expect to need the funds.
Of course, you should also take steps to increase the amount of money you can save, such as reducing unnecessary expenses or setting up a side hustle.
Why mortgage lenders require a down payment
Very few mortgage programs allow 100-percent, or zero-down, financing. That’s because a down payment on a home reduces the risk to the lender in several ways:
- Homeowners with their own money invested are less likely to default (stop paying) on their mortgages.
- If the lender has to foreclose and sell the property, it’s not on the hook for the entire purchase price, which can limit its potential losses if the home is sold for less than the remaining mortgage balance.
- Saving a down payment requires discipline and budgeting. This can help set up borrowers to be successful homeowners.
There are two government-backed loans that require no down payment: VA loans for service members and veterans and USDA loans for eligible buyers in rural areas.
Why down payments are good for homebuyers
That initial down payment might feel like a huge obstacle standing in your way, but saving for a down payment provides good practice for the financial responsibilities of homeownership.
Suppose you currently rent a house for $800 per month, and the payment for the home you want to buy would be $1,200 per month. You can “practice” for homeownership by putting the $400 difference into savings. This accomplishes three things:
- Your down payment savings grows.
- You’ll get used to having less spending money.
- You might avoid an expensive mistake if you realize you can’t handle the larger payment.
Many financial experts agree that having a down payment is a good sign you’re ready for homeownership. If you can make the necessary sacrifices to amass a down payment, then you’ll likely be able to manage expenses that come with owning a home, including monthly mortgage payments, homeowners insurance and maintenance, repairs, property taxes, HOA dues and utilities.
Plus, a larger down payment can also help you win a bid for a home against other buyers. By reducing uncertainty about whether the transaction can go through, the higher down payment makes your offer more competitive.
Bottom line on down payments
The size of your mortgage down payment is a personal and practical decision. Take a holistic look at your monthly budget, your other debts and the cost of living in your city to think about how much you should spend. Tools like Bankrate’s affordability calculator can help you determine the right amount for you, and so can a trusted mortgage professional. Ultimately, the decision comes down to your desire, your discipline and your resources.
Don’t forget that the down payment isn’t the only expense you’ll need to cover before you get the keys to your new place. Be sure to factor in closing costs, too. These can add up to tens of thousands of dollars in some states, and lenders will need to see that your bank account has the cash to cover these fees after you have made your down payment.