About to make a down payment on a home? Here’s how to avoid the six most common down payment errors. Deciding how much of a down payment to make on a home is one of the most crucial steps in the mortgage process. The amount you pay up-front is a major factor in determining how much your monthly payments will be, which makes it a decision that could affect you for years to come. Here are six of the most common down payment mistakes home buyers make and advice on how to avoid making them yourself.
Mistake #1: Making too small a down payment
While lenders do offer mortgages with down payments of less than 20 percent of a home’s sale price, these loans require you to pay private mortgage insurance (PMI) — an additional fee tacked on to your monthly payment to help protect the lender in case you should default on your loan.
In addition, low- and no-down-payment loans frequently carry higher interest rates and so can end up costing you considerably more over the life of your loan. Conversely, a down payment greater than 20 percent may earn you a more favorable interest rate if you have a less-than-stellar credit rating.
Mistake #2: Making too large a down payment
While common sense dictates that the more you pay up front, the better off you’ll be, that’s not always the case. One mistake first-time homebuyers sometimes make is using such a large portion of their savings for their down payment that they end up not having enough left over to cover closing costs and other expenditures for their new home.
Mistake #3: Not making a down payment at all
Some lenders offer mortgages that require no down payment but these loans can be risky. Paying no money down puts you in the position of having no equity in the home (i.e. you don’t own any part of it). Should the value of your home fall, there is the risk that you could end up owing more to the lender than your house is worth. This situation could also make it difficult to refinance your mortgage in the future.
A no-down-payment mortgage may be an effective strategy in certain situations. However, you need to be economically responsible and financially sound to be able to handle the inherent risks involved.
No-down-payment loans often come with a higher interest rate than loans with a conventional down payment. As a result, your monthly payments will be higher, leaving you with less money available for bills and emergencies.
Since you’ll be paying less than 20 percent of the home’s purchase price, you will also have to pay PMI or be required to take out a second loan (known as a “piggyback loan”). Each of these options increases the monthly cost of owning the home.
Mistake #4: Paying with unseasoned funds
In most cases, a down payment is a pretty substantial chunk of money, and not everyone has the ready cash to cover it. A gift from a friend or family member can help, but don’t think that just because you’ve come up with the full amount that you’re necessarily in the clear.
All funds — whether they’re gifts from relatives, loans against an investment portfolio or your own savings — that have been in your account for longer than two months are referred to as “seasoned,” meaning that they’re considered your money. If your bank statements indicate a large cash deposit that’s less than two months old, your lender will need to know where those funds came from and whether they’re gifts or loans. Gift-givers may be required to provide a letter to the lender indicating that they are in a financial position to offer the gift. Also, generally speaking, the larger your overall down payment amount, the less concerned the lender will be about where the money is coming from.
The lender wants assurances that the money you’re putting towards your down payment is actually “yours,” since it’s assumed that if you’re investing a significant portion of your own money into the down payment, you’re less likely to default on your loan.
Mistake #5: Neglecting to bring a cashier’s check to closing
Along with figuring out how much of a down payment you should make, you also need to ask your closing agent exactly how much you will be required to pay at closing. It’s not enough to simply bring your personal checkbook to closing. You will a cashier’s check to pay the amount of your down payment and your closing costs. Find out ahead of time exactly what the final total will be and obtain a cashier’s check for that amount.
Mistake #6: Incorrectly assessing your debt comfort level
No one knows better than you how much debt you can handle. Trust your instincts; if you’d rather pay as much as you can at the start and have the benefit of lower monthly payments, don’t let anyone dissuade you from that. The worst thing you can do is lock yourself into a mortgage that ends up costing you more per month than you can comfortably afford to spend.
Michael T. Moulton
Broker-In-Charge/Investor/Realtor
Bee Home Solutions, Inc.
The Creative Realty Firm.
Phone: 704-885-0488
Fax: 704-896-2802
Visit us on the web: www.BeeHomeSolutions.com
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About Mike
We have a concerned question, we have a home in Tucson; we have no job and are behind two months with a mortgage from Bank of America. We sent them a letter explaining our financial situation. Bank of America sent us back a modification form, which I am not willing to apply for again because with the last modification, the mortgage payment was raised . We want to keep the house, what do you recommend for us to do? Thank you.
Sincerely,
Gabriel & Juana
Hi Gabriel and Juana,
If your desire is to keep the home, the best option is to try again to workout a modification with BofA. It is a frustrating process for sure but you have to keep in contact with them and let them know what payment you can afford. I’m not surprised to hear that they previously provided you with an option of a higher payment. That seems to be common. You can submit the new forms and then escalate to a manager that can really work with you. We focus on purchasing homes and helping the homeowner to avoid foreclosure but the key to loan modifications at big banks is to get the right person on the other end of the phone. Best of luck to you.
Mike
Hi Mike,
Regarding #4, what are acceptable answers? It feels like the lender is really just trying to nickel and dime the consumer by creating more work.
If I received the funds in full faith and very legally, why is it put on the consumer to prove to the lender that I’m not getting drug money or putting the country in jeopardy through some sort of terrorist plot?
Aren’t I the customer? I’ve proven that I can make the down payment AND pay the mortgage faithfully, have gotten the credit approval, now this?
HI Karla,
Unfortunately the lending industry has become much more stringent to obtain financing due to the high level of defaulted loans. But even before the downfall the past few years, the underwriters approving your mortgage just want to make sure that the funds were meant for your transaction and also that by receiving them it doesn’t effect your ability to make the payments. Whether its wrong or right, that’s the way the system is setup. The best bet is to just provide documentation as to where the money came from and see what your mortgage broker suggests from there. Thanks for writing in…
Mike