How Much Money Do You Need to Buy a Home?

Low Money Down Payment Options

There is a common misconception that you need 20% down to purchase a home. This is absolutely not true and today we are going to look at the different options of how you can get into a home with low money down options/programs. Today we will be discussing all the common costs to begin home ownership and the feasibility of a low money down option.

First we will go over all the costs you must take into account when purchasing.

1. Down Payment
2. Closing Costs - These are your lender fees, escrow fees, title, and more. In California, closings costs are typically 1-2% of the Purchase Price.
3. Extra Costs to Consider - There are 2 costs to consider when going through the process. These are the inspection fee and appraisal fee. The inspection is one of the most important $300-$500+ spent and is highly recommended as it can save you thousands. It tells you if there are any problems (Big or small) with the property which can be negotiated to be repaired or make any price adjustments. The appraisal fee is $300-$500+ and is usually paid at closing.

FHA Loan (Pros):

For first time home buyers there is a federally insured loan that allows you to purchase a home with as low as 3.5% down known as the FHA Loan Program. There are plenty of benefits but also some cons to consider when going this route. The FHA Loan program is one of the lowest down payment options on the market.

- FHA is available to people with lower credit scores, as low as 580.

- Another qualifier is the debt to income ratio. FHA allows a higher debt to income ratio of 43%, meaning that out of your income, 43% can be used for your debts (Car loans, student loans, mortgage, etc.) The 43% is higher than the average debt to income ratio of 35%. (Provides more flexibility.)

- All FHA loans are only for your primary residence. This also applies to multi-unit properties up to 4 units as long as you are living in one of the units. This does not mean you can never rent it out for the life of the loan. You can actually rent out the home/your unit after the initial occupancy period which is one year.

- Lastly, you must have steady income and proof of employment. (This stands true for all loans.)

Let’s look at the Cons and Disadvantages.

• Mortgage Insurance Premiums (MIP) - There is an upfront MIP payment of 1.75% that can be paid up front or put into the monthly payments. Not only this but there is an annual premium that is typically 0.8%. If you put less than 10%, you will be paying this premium for the life of the loan. There are ways around this where you can refinance the loan to eliminate the FHA mortgage insurance so don’t think you are locked into this for the life of the loan.
• FHA loans are limited on how much you can borrow. Depending on the location of each property, these limits are constantly changing.
• FHA has minimum property standards. Buyers will notice that it is almost impossible to purchase fixer uppers and older homes with the FHA loan.

Conventional Loan

Conventional loans might be a better alternative if you are looking for a higher priced home, home in need of more repairs, or in some cases a better financial option.

• Can put as little as 5% Down.
• Minimum credit score of 620-650. The better your credit score, the better the interest rate will be. That is why building/repairing your credit score a year or two before planning to purchase your home can be tremendously beneficial.
• Debt to income ratio varies between each lender. On average it’s 35%. I have seen cases where lenders were able to push this to 50%. Consult with your lender/bank.
• Potential Cash Reserves. Depending on the lender’s requirements you may need a few months of payments in cash reserves. This is seen when buying multi unit properties.
• Private Mortgage Insurance (PMI) is a type of mortgage insurance you will be required to pay if you put less than 20% down. Typically 0.19%-1.86%.
• Does not have to be primary residence.
• Employment. Will typically need proof of 2 years steady income and employment history. This is proven through your tax forms.

For Investment:

If you are looking to purchase solely for investment and do not plan to occupy the property, the minimum down payment is 15%. This is why many people elect to occupy for the first year with low down payment options, then rent out the property. This allows first time buyers and investors who have little capital get into real estate investing.

Example:

Purchase Price: $600,000

Down Payment 5% ($30,000)

Closing Costs: $7,000

Inspection Costs: $400

Interest Rate 3.25%

PMI: $230

Monthly Mortgage Payment: $3,310

Cash to close: $37,400

How Likely Are Sellers to Accept These Offers?

In a competitive market, the down payment amount could be a significant decider in some cases. When a home is in need of some work, sellers are more hesitant to accept an offer with a low down payment. This is because sellers think with a low down payment, buyers do not have much capital to repair and will ask the seller to repair these items.

Ways around this will be to write a clause to purchase “as is”, or “repair and credit not to exceed $xxxx”. By doing this you give the seller some reassurance of your stance, but you as the buyer is protected as well if the inspection contingency is still on the table. If there is a big problem with the property, that issue can always be revisited.

Another way to compete is to put a competitive price. You may have to go above asking price, and be the best offer in terms of price to beat out other offers. If your offer is the same as another, but the other has a higher down payment, the seller will be more inclined to choose the one with the higher down payment. Keep these in mind.