Saving for a down payment is often the biggest hurdle for a first-time homebuyer as median incomes, rents, and home prices all vary depending on where you live.
There is a common misconception among homebuyers that a 20% down payment is required, and it is this limiting belief that often adds months, and sometimes even years, to the home-buying process. So, if you can purchase a home with less than a 20% down payment… why aren’t more people doing just that?
One Possible Answer: Private Mortgage Insurance (PMI)
Freddie Mac defines PMI as:
“An insurance policy that protects the lender if you are unable to pay your mortgage. It’s a monthly fee, rolled into your mortgage payment, that is required for all traditional loans that have down payments less than 20%. This does not apply to Veteran’s and Federal Housing Administration aka FHA loans.
As you make your monthly payments and you’ve built equity of at less 20% in your home, you can cancel your PMI and remove that expense from your mortgage payment.”
As the borrower, you pay the monthly premiums for the PMI insurance policy, and the lender is the beneficiary of that policy. The monthly cost of your PMI depends on the home’s value, the amount of your down payment, and your credit score.
Below is a table showing the difference in monthly mortgage payment for a $250,000 home with a 3% down payment and PMI vs. a 20% down payment without PMI:
The first thing you see when looking at the table above is no doubt the added $320 a month that you would be spending on your monthly mortgage cost. The second thing that should stand out is that a 20% down payment is $50,000!
If you are buying your first home, $50,000 is a large sum of money that takes discipline and sacrifice to save. Many first-time buyers save for 5-10 years before buying their homes. To save $50,000 in 10 years, you would need to save about $420 a month. On the other hand, if you save that same $420 a month, you could afford a 3% down payment in less than a year and a half.
In a recent article by My Mortgage Insider, they explain what could happen in the market while you are waiting those 10 years to save for a higher down payment:
“The time it takes to save a (larger) down payment could mean higher home prices and tougher qualifying down the road. For many buyers, it could prove much cheaper and quicker to opt for the 3% down mortgage immediately.”
The article went on to say,
“Since renters typically devote a higher percentage of their income to housing than homeowners, providing flexible down payment options can help renters who have solid earnings purchase a home – and gain a fixed-rate mortgage with principal and interest payments that will not increase over the life of the loan.”
If you buy a home with a 30-year fixed-rate mortgage in 2018, your interest rate will not change all way through 2048. That gives you peace of mind.
If the prospect of having to pay PMI is holding you back from buying a home today, Freddie Mac has this advice,
“Private Mortgage Insurance is no doubt an added cost, but it’s allowing you to buy a home now and begin building equity aka wealth versus waiting 5 to 10 years to build enough savings for a 20% down payment.”
Based on results of the most recent Home Price Expectation Survey, a homeowner who purchased a $250,000 home in January would gain $50,000 in equity over the next five years based on home price appreciation alone (shown below).
If you have questions about whether you should buy now with PMI or wait until you’ve saved a larger down payment, meet with a housing professional in your area who can explain your market’s conditions and help you make the best decision for you and your family.
Visit us at hfamiami.com/homebuyers to learn about our first-time home buyers’ mortgage, low interest rates and down payment assistance program.
Note, information in this post was derived from Keeping Matters Current.