For many would-be buyers, the down payment is the only thing keeping them from owning a home. Most have a good paying and consistent job – some are even working to pay down debt.
With that said, it’s always best to first reach out to an experienced lender to find out more about the different options available.
It doesn’t always take 20% down
If you’re a first-time home buyer, the down payment hurdle you have to clear may be quite a bit lower than you think. Traditionally, lenders have asked for 20% down, but there are many, many low down payment options are available, especially to first-time buyers.
In fact, mortgages backed by the VA and the USDA — for those who qualify — usually don’t require a down payment at all. A funding fee is charged on VA loans, but even that can be rolled into your monthly loan payment.
FHA-backed loans are available with as little as 3.5% down. With that said, buyers will have to pay mortgage insurance to help lenders defray the costs of loans that default.
Conventional loans, which aren’t backed by the government, also offer low down payment programs to first-time buyers. In, fact, down payments of just 3% are common, especially if you are a first-time buyer. Again, buyers really should reach out to lenders that understand these programs and how they work.
Family down payment gifts
Getting help from family members might be another way to go.
If you’re getting a cash gift for down payment, you’ll want to be sure that you “receive” your cash gift properly. Should you receive your gift improperly, your lender is likely to reject your home loan application.
It’s imperative, therefore, that you follow the rules of cash-gifting for a home.
The down payment gift rules are (1) the gift must be documented with a formal “gift letter”; (2) a paper trail must be shown for the gifted monies as they move from the giver’s account to the home buyer’s account; and (3) the gift may not be a loan-in-disguise. Home buyers are permitted to accept up to 6% of a home’s purchase price in the form of a cash down payment gift.
Using retirement accounts
If you have a retirement funds set aside, you should be able to tap a portion of it to help with the down payment. Employer-sponsored 401(k) plans often allow for penalty-free hardship withdrawals or loans.
One option used by many with a 401k is to take out a loan. Generally, your loan can be up to $50,000 or half the value of the account, whichever is less. As long as you can handle the payments (and yes, you have to pay back this loan), this is usually a less expensive option than a straight withdrawal. Though you will pay interest, you won’t pay taxes or penalties on the loan amount.
Contact your 401(k) plan administrator to find out more.
A few things to know about 401k loans:
- Since you’re incurring debt and will need to make monthly payments on the loan, your ability to get a mortgage may be affected.
- The interest rate on 401k loans is generally about two points above the prime rate. The interest you pay, however, isn’t paid to the company – it goes into your 401k account.
- Many plans give you only five years to repay the loan. In other words, if you borrow a large amount, the payments could be substantial.
- If you leave your company, you may be required to pay back the outstanding balance within 60 to 90 days or be forced to take it as a hardship withdrawal. This means you’ll be hit with taxes and penalties on the amount you still owe.
- If payments are deducted from your paycheck, the principal payments will not be taxed but the interest payments will. Since you’ll be taxed again on withdrawals during retirement, the interest payments will end up being double-taxed.
State and local down payment assistance
There are programs in every state, implemented by government agencies, nonprofits, foundations and even employers. Assistance can have a geographic focus as wide as the nation or as narrow as a city — all the way to hyper-local initiatives targeted as tightly as neighborhoods, and even house by house.
Down Payment Assistance (DPA) programs are designed to make new homes affordable for low to middle income buyers. These mortgage programs can be used whether you are a first time buyer or fifth time buyer (unless there is a state specific program that sets its own rules).
In general, it’s good to keep in mind that many of these programs are government based. Stipulations may be placed on your purchase like, a requirement that the unit remains owner-occupied or when you decide to sell the property or you may only be able to sell it to another qualified low to moderate-income buyer. Also, the interest rates for these programs are generally higher than other options.
Programs change often; they’re funded, defunded and sometimes re-funded.
Going old-school and saving
There’s always the spend-less-than-you-earn-and-save-it strategy to building a down payment fund.
More than likely, it may take a combination of strategies to get you into a home with a decent down payment — and still have a little left over to cover those unexpected home-ownership expenses. Make sure to reach out to me for more information!