When Does it Make Sense to Put Less than 20% Down on a House?

By Chonce

| Photographs By monkeybusinessimages/monkeybusinessimages

 

Think you’re ready to buy a house? One of the biggest financial obstacles you might face is coming up with a down payment.

A general rule of thumb is to put at least 20% down when you buy a house. This gives you some equity in the property and can help you avoid paying private mortgage insurance (PMI) on top of your monthly mortgage payment.

Depending on your needs and the housing market in your area, coming up with a 20% down payment can be difficult. If you’re looking at a $200,000 home, a 20% down payment would add up to $40,000. Don’t have that type of money? You can still buy a home with less than 20%.

But first … I wouldn’t consider homeownership if you:

  • Have a lot of consumer debt
  • Don’t have an emergency fund
  • Aren’t considering staying in the home for at least a few years
  • Don’t have any money to put toward the down payment

While the standard down payment for a home is 20%, you can still become a homeowner by putting far less down. Here are some ways to do it along with when it may make sense to put forth a smaller down payment.

Other Mortgage Options May Interest You

FHA loans are a good choice for home buyers who can’t afford the larger down payments that conventional mortgages often require. They’re backed by the Federal Housing Administration, which secures the loan, allowing borrowers to make a minimum down payment of 3.5%. VA and USDA loans may even allow you to become a homeowner with as little as 0% down.

Low-down-payment loans like an FHA loan, VA loan and other 0%-down mortgages help families with lower incomes be able to buy a house, but there are also some disadvantages as well.

For starters, you could be expected to pay a higher interest rate if you put less down. In addition, putting up a smaller down payment could cause you to pay private mortgage insurance, which can add to your mortgage payment each month, increasing the amount of money you need to pay on your loan over time.

For some loans, you can get rid of PMI years later, but it’s still extra money spent that could be avoided if you make a larger down payment.

Yet and still, it’s helpful to have the option of getting an FHA loan if you can’t put 20% down on your home.

You Don’t Have All the Money Upfront

When buying a home, you don’t want to deplete your savings entirely so you can still be able to afford unexpected expenses in other areas of your budget. While you may not have all the money upfront for a 20% down payment, closing costs, and moving expenses, you can still be able to comfortably afford the monthly mortgage payment.

As a homeowner, you should have at least 6-12 months of expenses set aside in a savings account should you need it to cover home repairs and maintenance, or other unexpected costs. If you’d prefer to have more-liquid funds as opposed to tying everything up in your home, it may make sense to make a smaller down payment.

That way, you can have more money to meet other goals like paying off any lingering debt or saving for retirement.

It May Not Be Your Forever Home

When you’re buying your first home, odds are it probably won’t be your forever home. If that’s the case, why spend a lot of time saving up a 20% down payment?

You’ll likely consider moving again in 4-5 years, so a 20% down payment probably won’t really save you much money throughout your time in the house.

If you were to keep the mortgage for a full 30 years, that would be another story, and building equity would really be valuable given the state of the housing market.

You Want to Invest in Other Things

Having $40,000 to $60,000 to put down on a house can certainly be helpful. But, if you don’t want to put all your eggs into one basket, you may prefer to put less down on your home and use some of your money in other areas of your budget. This could be things like investing or saving for your children’s college.

If building equity upfront is not super-important to you, you may believe you can see a higher return on the stock market. If you go this route, you will also have to factor in the fact that you could end up paying more for your mortgage despite saving more in other areas or even seeing solid investment returns.

You Qualify for Down-Payment Assistance

If you simply can’t afford to make a 20% down payment but would rather become a homeowner sooner than later, you may qualify for down-payment assistance. Certain states have down-payment assistance programs. They offer families grants to help cover their down payment and closing costs for a new home.

You’d have to apply for these programs and meet certain income requirements that can vary. However, it’s worth looking into if you want to get the ball rolling on homeownership and the only thing holding you back is not having a large enough down payment.

In my state, couples can still qualify for certain programs with an annual income of up to $91,000.

Bottom Line

While some people will swear by putting no less than 20% down on a home, that just won’t be ideal or possible for some people. This doesn’t mean you won’t be able to own a home, since you can put much less down than 20%. The key is to know what you can afford when it comes to a home and commit to putting something down even if it’s just 3% to 6% of the purchase price. I wouldn’t advise a 0% down-payment option even if you qualify.

Be mindful that it’s more important to make sure your finances are in order so that you can take on the responsibility of homeownership. Also, realize that making a smaller down payment does come with some risks and disadvantages, like having less equity to begin with, a potentially higher interest rate, PMI, and a higher mortgage payment overall.


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