BUY A HOUSE FOR LESS THAN 20% DOWN?
Is it possible to buy your dream home if you have less than 20% of the down payment saved up? The median property in the inner East Bay costs around $800,000. So, a 20% down payment would mean that you need to have $160,000 not counting all your closing costs. Now that’s a lot of money to save, especially when rent and other expenses are high. This makes 10% and 5% down payment options attractive and within reach for more buyers and is a topic that pops up in almost every real estate agent’s YouTube channel. But is it really possible to purchase your dream home with this type of loan? In today’s video, let’s talk about the things and strategies you need to know if you’re going to pursue a low down payment home.
Mortgage Insurance
Mortgage Insurance is an insurance policy that lenders require of their borrowers a down payment of less than 20% of the purchase price. Unlike other types of insurance, mortgage insurance protects the lender’s investment in the home, in the event of a loss due to a default.
As a buyer, having mortgage insurance means there is additional cost on top of the principal interest taxes and insurance (PITI) that you would normally be paying every monthly. Because the additional cost can negatively affect your debt to income ratios and ultimately, reduce the amount you can afford. Make sure to talk to your lender about how the mortgage insurance is going to affect your ability to actually purchase a home. You also want to make sure you clearly understand how to get out from under the premium. Note that some loans allow you to cancel once you’ve paid off at least 20% of the price of your loan.
How to Get Into Contract
If they present a higher risk to the lender, similarly, a low down payment home also presents a higher risk to the seller. This means you want to come up with a strategy to show them that accepting your offer isn’t as big of a risk as they think.
Ultimately, the seller wants to be confident that you can close on the offer you wrote. Let’s take the case of a low appraisal as an example. If you wrote an $800k offer but the appraisal came in at only $780k, sellers would want to know that you’ll be able to take care of the $20k discrepancy.
Sellers typically think that a low down payment indicate that you don’t have a lot of cash reserves available to cover such a discrepancy. And most of the time they are right. However, if you can show them something else or get creative with your finances, perhaps you can work around this.
Make sure your lender and agent communicate about three things. First, from a financing perspective, exactly what low down payment option you are using. Second, how you’re going to potentially overcome a shortfall in an appraisal or anything else that comes up. Lastly, what exactly you’re going to do to secure this loan.
Also, just be aware that even though you get to show the seller that it’s okay to accept your offer, it still doesn’t mean that you’re going to win over your competition. Competing with a low down payment, especially against a 25% or 30% down, is simply hard. In short, if you really want to succeed, you have to be prepared to write offers and get rejected several times before.
Assessing your exposure and risk with pursuing a low down payment home
Everyone is waiting for the next market correction. Typically, it’s called a correction when prices drop not more than 10% from the highest prices within that year.
When you’re purchasing a low down payment home, you need to make sure you are very comfortable in staying in the house for a long period of time in the event that the market corrects. If you only had a 10% down payment, and the market corrects -10%, you will be underwater. Now, as long as you can continue to make the payment, you are going to be ok. It’s only if you sell that you actually loose money and have to deal with the fallout of a short sale. So, make sure that if you buy a home with a low down payment you want to be in the house for:
- Five (5) or more years in the event of a down turn, OR
- The market is looking strong and you feel confident that it’s not going to go down in the next few years.
In conclusion, worse comes to worst, you’ll have to sell the home at a loss. That, unfortunately, will reflect poorly on your credit and your ability to secure loans in the future. Not to mention the 10% down payment you used to buy the house is gone. So before you decide to pursue a low down payment home, make sure you’ve really looked into the three things I’ve mentioned.
I hope my guide for purchasing a low down payment home home has helped you.
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