For many home buyers, one of the biggest hurdles and objections in the process of buying a home is saving up for a down payment. In today’s markets, home values are high, so trying to save up for the traditional 20-percent down payment may seem like an endless task. Just as you think you’re getting close, home values increase again and you’re left chasing after an unattainable goal.
Some buyers get around this dilemma by offering a smaller down payment, such as 10 or even 5 percent of the home’s purchase price. They may get to move into their own home sooner, but there are still inherent risks and disadvantages associated with smaller down payments that you should consider before going this route. A question one should ask before buying a home is what are the disadvantages of putting less than twenty percent down when buying a home. Now, be aware that a smaller down payment can actually increase the total cost of your home purchase. When it’s time to buy, being sure to work with a knowledgeable and reputable realtor will help you understand all the ins and outs of mortgages and down payments.
Higher Mortgage Payments
The smaller your down payment, the greater the amount you will need to borrow to buy your home. This means that the amount you will need to pay every month will be larger. Mortgages are set up to cover a specified time period, usually 15 or 30 years, so in order to get all of the principal and interest paid within that time, a larger loan leads to larger monthly payments.
Higher Interest Rates
Many lenders charge a higher interest rate on a mortgage when their customers make less than a 20-percent down payment. Why? If customers can’t save or otherwise produce that much for a down payment, lenders see them as less financially secure (ie, if you can’t pay this now, how exactly are you going to be better off in the future than now?). This in turn makes the customer a higher risk for repaying the loan, so the lender in essence charges them more for it.
Private Mortgage Insurance
If you put down less than 20 percent of the home’s value, expect to add private mortgage insurance (PMI) to the total cost of the loan. PMI is a form of insurance that protects the lender in case you default on the loan, and it’s probably the biggest disadvantage to making a down payment of less than 20 percent. The actual amount you will be required to carry on your mortgage will depend on a number of factors, such as the amount of the loan and your credit history. Over the term of a loan, PMI can add significantly to the end cost of your purchase of the property. In most cases, you’ll pay the PMI premiums as part of your monthly payment to the lender; which (these premiums) can often double the amount of your payments.
In addition, the amount of PMI your lender requires will likely increase as the amount of your loan increases. So a down payment of 5 percent will trigger larger monthly payments than even a 10-percent down payment will. Finally, lenders may limit the amount of money you can actually borrow if you can offer only a small down payment because they see you as a greater risk. The cost of PMI will be included in this final amount, so you will have less actual mortgage funds available to pay for your new home.
Getting Help and Advice
There’s no need to try to figure out these costs on your own. You could be asking yourself a number of questions, including When Is The Right Time To Buy A House? or What Is The Relationship Between Mortgage Rates And Housing Prices? Now, talking to a lender or a financial advisor can help, but your best source of information may be a well-informed realtor who deals with these situations on a daily basis, knows the territory, and has experience working with local financial institutions.