You should make a 20% down payment when buying a home. Even though this is a significant amount of money, it will save you a ton of money in the long run. Making a small down payment will end up costing you thousands of dollars in interest over the life of the loan.
Currently, an FHA-insured mortgage has become quite popular. It has a down payment of only 3.5%. However, there are two extra fees charged with this loan. The first is a one-time upfront fee equal to 1.75% of the loan amount. On a $250,000 loan that is $4,375. Lenders will make it palatable by rolling it into the life of the loan. Ouch, that means more money in interest that you have to pay.
The second fee is an annual mortgage insurance premium (MIP). On loans with a 3.5% down payment, the MIP is typically 0.85% a year! It can go up to 1.05% in high cost regions. Unlike Private Mortgage Insurance (PMI), it does not go away after you have 80% equity in your home. If you don’t refinance, you are stuck with MIP until you pay off the loan. If you are able to refinance, just watch out that the interest rate are not higher.
While many lenders have conventional loans with lower down payments, you will be charged PMI. The rate of the PMI will depend on your credit score. Currently, a great FICO score of 760+ will be charged about 0.55%. If your score is 700-759, the PMI ranges between 0.75% – 1.15%. The advantage of this loan over an FHA loan is that PMI will go away once you have 80% equity in your home. Remember that you are the one that has to contact the financial institution to get the PMI removed. They won’t do it automatically.
So now you see why a 20% is the best way to go if you cannot pay cash for your home. Also, if you lower the price of your home, it’ll be easier to save the 20%, as it will be a lower amount. Plus, you won’t have PMI to contend with.
Remember to never ever touch your retirement savings for your down payment. You’ll be hurting yourself when it’s time to retire. Don’t use your emergency fund (EF) for a down payment. A down payment is not an emergency. Lenders also want to see that you have at least three to six months of mortgage payments saved. If you’re using your EF for a down payment, you might not get approved for the loan.
