The cost of buying a home in the United States is at an all-time high, with the median home price in Q3 2022 coming in at $454,900. The prospect of homeownership can be daunting, especially for first-time buyers who may not have a significant amount of savings set aside for a down payment. But don’t worry, the good news is that making a 20% down payment is not always a requirement.
Down Payment Requirements
According to the National Association of Realtors (NAR), first-time home buyers made an average down payment of just 6% on their home purchases in 2022. This is not ideal, however, as a smaller down payment comes with some risks. A minimum required down payment of 3.5% on an FHA mortgage loan for a $454,900 home is nearly $16,000, while a 20% down payment is almost $91,000. For many first-time buyers, it could take years to save up for the minimum required down payment.
The Cost of Mortgage Insurance
You do not have to make a 20% down payment to secure a mortgage loan. Making a smaller down payment requires paying private mortgage insurance (PMI) for conventional mortgage loans. FHA loans have a down payment requirement of 3.5% or 10%, and if the down payment is less than 10%, you’ll pay mortgage insurance premiums (MIP) for the life of the loan. Mortgage insurance is a protection for the lender in case of default, and the cost is a percentage of the loan amount. The cost of mortgage insurance on a $454,900 home can be an extra $189.54 to $379.08 per month on top of your mortgage payment.
The Risks of Making a Smaller Down Payment
Making a smaller down payment puts you at risk of being underwater on your mortgage. If property values take a hit, you may owe more on the mortgage loan than what the home is worth. This can be a problem if you lose your job and need to sell the home, but can’t sell for at least as much as you owe. This situation is not ideal, as you may have to cover closing costs and pay the real estate agent’s commissions.
The Ideal Option: Putting as Much Down Payment as Possible
Putting as much down payment as possible is the ideal option. A 20% down payment provides a sense of security and stability and eliminates the need to pay mortgage insurance. However, if a 20% down payment is out of reach, it’s possible to buy a home with a smaller down payment. However, this comes with extra costs in the form of mortgage insurance and a higher risk of ending up underwater.
So, buying a home can be a significant investment, but with the proper planning and preparation, it is possible to make homeownership a reality. Just remember that it is important to weigh the costs and benefits of making a smaller down payment, and of course to consider all of the factors involved before making a decision.
