Don't make these Down Payment Mistakes!
Buying a home? What’s the best amount for a down payment on a home? Avoiding the most common down payment errors can be money in the bank for you – in the long run. One of the most crucial steps in the mortgage acquisition process is deciding how much of a down payment to make on your new home. The amount you pay up-front, which is a decision that could affect you for many years, is a major factor in determining how much your monthly payments will be. Be smart - avoid the most common down payment mistakes home buyers make.
Big Mistake No. 1 - Not knowing how much debt you can comfortably afford
Some people finance the majority of amount needed to purchase the home, others finance as little as possible by putting up a significant down-payment. You will know best how much debt you wish to handle. In many cases, it’s better to be a little cash-rich and house-poor than the other way around. The lenders base the amount that they will loan you on your debt-to-income ratio. The less debt and higher income the better. However, you should have a feeling as to the actual amount you’re willing to spend each month on a mortgage – no matter what the bank says you’re “able” to borrow. The worst thing to do would be to bind yourself to a 30 year mortgage that squeezes your monthly funds to the point you cannot have extra money for vacations or even necessities.
Big Mistake No. 2 - Making a down payment that’s nearly $0
There are some lending programs that allow $0 down - such as assistance for down-payment loans to police, fire fighters, teachers etc. These are extra loans (sometimes forgiven after 4 or 5 years) that allow low-income earners to qualify for a home. Paying little or no money down will put you in the position of having little significant equity in the home. Equity is the real money difference between what the home is worth and what you owe on it. Should the value of your home fall, there is the risk that you could end up owing more to the lender than the house is worth. This situation could also make it difficult to sell or refinance in the future. However, at the end of the day these programs promote home ownership and the financial and personal benefits that go with it. Be aware that these programs also may have higher interest rates for the loan.
Conventional loans require at least 5% down payment. Government backed (insured) loans require 3.5% or less (VA may be $0) as down payment. The lenders for these loans will charge you Private Mortgage Insurance (PMI) if the equity in the home is less than 20%. This will also increase the monthly cost of owning the home.
Big Mistake No. 3 - Making your down payment too small
While lenders do offer mortgages with down payments of less than 20 percent of a home's sale price, these loans require you to pay private mortgage insurance (PMI) -- an additional fee tacked on to your monthly payment to help protect the lender in case you should default on your loan.
In addition, low- and no-down-payment loans frequently carry higher interest rates and so can end up costing 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 if you have a less-than-stellar credit rating.
Don't end up with a large total monthly house payment and have to use credit cards to buy life's essential - that's a downward spiral that ends badly.
Big Mistake No. 4 - Making your down payment too large
Common sense dictates that the more you pay up front, the better off you'll be, that's not always the case. Don’t make the mistake some first-time homebuyers sometimes make - using so much of their savings for their down that they end up not having enough left over to cover closing costs, and more importantly the expenditures for the new home that come after closing (insurance, furniture, lawn care equipment, etc).
Big Mistake No. 5 - Paying with unseasoned funds
Coming up with a down payment can be a daunting task, as the funds needed can be a fairly substantial amount of money. It may take a long time to save for this amount, and many people will need a lot of time to save for it. You can receive a gift from a friend or family member, but don't think that just because you've come up with the full amount that you're necessarily in the clear.
All funds -- whether they're your savings, gifts from relatives, investments or other loans, must be in your account for longer than two months to be referred to as "seasoned," i.e. they are to be considered your money. Your lender will scrutinize your bank statements and want a full explanation for all significant deposits less than two months old. They will want to know whether they're gifts or loans. You’ll need a letter from the gifting party indicating that they are the source of the gift and can financially do so. Post-mortgage-meltdown lenders now require details about your financial situation that border on the extreme. New government regulations require much of this, and remembering that the bank is giving a very large sum of money to you to purchase the home will help to understand their attitude toward this.
Big Mistake No. 6 – Thinking you can write a personal check at closing
To close your home purchase deal, an attorney will handle the transfer of title and of funds between buyer and seller. Today, many lenders (and their attorneys) will require a wire transfer of funds from your bank to their account as the method of funding the down payment. In some cases, if the amount is less than $5000, the closing attorney or title agent will allow a cashier’s check. However, even this is becoming more rare – wire transfers are becoming the standard method.
You should ask your real estate agent or the attorney directly to procure a Preliminary Closing Statement (also known as a HUD) – this will show you exactly how much you will be required to pay at closing.
Not a Mistake - Calling us!
At Rand Realty, we advise all of our clients as to the in’s and out’s of procuring a great mortgage for their situation. The mortgage consultants we align with are the best we’ve found over the years, and they also will inform you as you go through this sometimes difficult process. In the end, it is our goal to help you get the best home, the best loan and the best deal for your money. Call us today to get started!