Are Low Down Payment Loans Really a Good Option?

FHA Loan Federal Housing Administration Lending Concept

After the housing market crashed in 2008 and 2009, a lot of people heard about how the proliferation of low- and no-down-payment loans contributed to a housing market where millions of consumers had little or no equity in their homes. These low-down-payment loans were criticized, and some lenders severely reduced or eliminated them. Low down payments might not be the right answer for every homebuyer, but it’s important to understand when they are a good choice and when you’re better off putting some extra money down.

Homebuyers With Limited Cash

The most common low-down-payment loan for homeowners is through the Federal Housing Administration (FHA). FHA loans offer buyers the opportunity to purchase a home with as little as 3.5 percent down payment. As home prices continue to rise, the prospect of needing 10 or 20 percent to put down can put the dream of homeownership out of reach for many first-time homebuyers. In these cases, a low down payment option might be the best way to purchase a home.

Buyers with High Debt-to-Income

Another reason a homebuyer might opt for an FHA loan is that they would be otherwise unable to qualify for a loan through traditional means, often because they have a debt-to-income ratio (or DTI) that would make lenders wary of lending to them. DTI is a measure of how much money you own on your monthly debt obligations compared with your monthly income, and if the ratio is unfavorable, you will either be denied a loan or will end up with a higher interest rate. This also allows you to keep more of your current money to pay down your debt, rather than putting it down on a home.

Liquidity

There are some other advantages to putting only a small down payment on your home, and perhaps the biggest is keeping more of your money. Even if you have enough to put 10 or 20 percent down on a home, it’s not always the best choice. Keeping some of the money in savings can help you remain flexible in case of an emergency, job loss, or other investment opportunity that comes along.

The Cost of Low-Down-Payment Loans

The key difference between someone who is able to qualify for a conventional loan with 10 or 20 percent down and someone who gets a loan with a low down payment is private mortgage insurance (PMI). PMI emerged in the wake of the housing crisis as a way for lenders to protect against homeowners whose home values went down and they had no equity, leaving them “underwater” on their loan.

Premiums on PMI have increased over the past few years, and fees have gone up as well as a way for the U.S. Department of Housing and Urban Development (HUD) to shore up its insurance fund with more and more borrowers turning to FHA loans. Other recent changes to the PMI process include higher fees up front, and the requirement that borrowers pay PMI for the entire life of the loan.

Find Out if These Loans are Right for You

If you are considering a low down payment loan, it’s important to talk to a mortgage lender in Salt Lake City about all the options available so you can determine which one works best for your financial situation.

Loan Programs With Little or No Down Payment

Ideally when you go to purchase a home, you will have between 10 and 20 percent of the total cost of the loan to put as a down payment. However, with the costs of homes on the rise, even coming up with 10 percent can be difficult for some buyers. Rather than waiting years and spending money on rent, some people prefer to get a loan through programs that allow for low or no down payment. In some cases these loans might cost more because you will need private mortgage insurance (PMI) or will have a higher interest rate, but it might be worthwhile depending on your individual situation.

VA Loans

Qualifying veterans may be able to get a loan through the Veterans Administration (VA), which guarantees that you can purchase a mortgage with no down payment at all. These loans come from private lenders, but are backed (guaranteed) by the VA, so there is no mortgage insurance and you only pay a small funding fee. Fees vary depending on whether you served in regular military, Reserves, or National Guard, and how many previous VA loans you have obtained.

Navy Federal Loans

The nation’s largest credit union, Navy Federal, offers 100 percent home financing for the purchase of a primary home (not a vacation or second home). Since only members of the military, their families, and some civilian employees of the Department of Defense can be members of Navy Federal, these loans are restricted to that group.

USDA Loans

The United States Department of Agriculture (USDA) has a rural development mortgage guarantee program, and is a popular one among many lenders and buyers. These loans are applicable to farmland, but can also be used to purchase homes in areas deemed eligible according to calculations like geography, household income, and whether you are a first-time homebuyer. The USDA levies an up-front fee of two percent rather than PMI.

Mortgage Insurance Loans

If you cannot qualify for one of the above programs, you might be able to get a conventional loan with low down payment and pay additional mortgage insurance. This insurance will be added to your monthly payments, and will be due as long as your loan is more than 80 percent of your total home value.

FHA Loans

Finally, you can consider FHA loans if you have at least 3.5 percent of the home’s purchase price for a down payment. These loans are ideal for someone who has a poor credit history and may have a hard time qualifying for a loan otherwise. These loans do include an upfront premium of 1.75 percent, and an annual premium of 1.25 percent, which adds up to about $100 a month per $100,000 borrowed.

If you don’t have 10 to 20 percent to put down, talk to your lender today about other options to see if you qualify for a low or no down payment loan.