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Spring House Hunt: Why you don’t need 20% down to buy a home

Ask the Expert Buying Spring House Hunt
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Some lenders offer mortgages with as little as 3 percent down. Adobe Stock

Many Americans may be unnecessarily talking themselves out of homeownership. Thirty-seven percent of nonhomeowners say not having enough saved for a down payment is holding them back from homeownership, but 62 percent of Americans incorrectly believe you have to have at least 20 percent of a home’s purchase price to buy, according to NerdWallet’s 2020 Home Buyer Report.

The truth is: You don’t need 20 percent of a home’s price to buy it. Some lenders offer mortgages with as little as 3 percent down. So, how do you know just how much you need to save up based on your specific goals? It requires a little strategizing.

Before you can zero in on a down payment target, you have to determine how much home you can afford and when you’d like to start home shopping. First, set your home-buying budget with a home affordability calculator to get estimated monthly payments based on various home prices, down payment amounts, and locations.

Then, set an approximate timeline. Maybe you’re planning a wedding and know you won’t be ready to purchase for at least two years, or you’re just starting a graduate program and want to give yourself five years to find employment and settle down after graduation. Be realistic and account for your life circumstances.

With a home-buying budget and estimated timeline, you can start running numbers to set a down payment savings goal.

1. Is saving 20 percent by your goal date realistic?

Calculate 20 percent of that home-buying budget and determine whether it’s feasible to stash that amount away in the time you’ve allotted.

If the answer is yes, great! A big down payment doesn’t only lower monthly payments, it can save you thousands of dollars in interest over the life of the loan and eliminate the need to pay private mortgage insurance.

If it’s no, you have two options: revisit your goal parameters — opting for a less expensive home or pushing out your target date — or consider a smaller down payment.

Example: For a $250,000 home, someone starting with $0 saved would need to save about $1,400 each month to reach a 20 percent down payment in three years. For most folks, that’s a stretch. Adjusting the timeline to five years would require monthly savings of about $800. While that may be more realistic, a smaller down payment could get you in a home sooner and with less stress to your monthly household budget.

2. How much can you save by your deadline?

What’s the most you can save monthly for your down payment goal? If you don’t already know the answer, create a monthly household budget to help figure out where your money is going and how much you can set aside.

At a high level, allocating 50 percent of your post-tax income toward your needs, 30 percent toward your wants, and 20 percent toward savings (including your down payment) and debt repayment is a sustainable approach. But by accounting for all of your income and spending, you may realize you can sacrifice a little of your dining out and entertainment money (wants) temporarily to make homeownership a reality sooner.

Example: You decide you can set aside $350 each month. If you’re still hoping to start home shopping in three years, this would leave you with $12,600, or a 5 percent down payment. Because many lenders accept down payments of 5 percent, and even lower, you’ll be in a good place to buy around your three-year target date.

3. Do you qualify for down payment assistance?

Even setting aside $12,000 in three years can seem out of reach for some people, but all hope is not lost. First-time home buyers, or those who haven’t owned a home for the past three years, may qualify for down payment assistance, a grant or loan to cover some or all down payment costs. And in some cases, repeat buyers may qualify.

Down payment assistance programs can both shorten the path to homeownership and free up existing savings for closing costs, moving or other home-buying costs.

Such programs can both shorten the path to homeownership and free existing savings for closing costs, moving or other homebuying expenses.

4. Weighing the trade-offs of a high vs. low down payment

A down payment doesn’t have to stand in the way of homeownership. Smaller down payments and down payment-assistance programs can help you achieve your home-buying dreams more quickly and leave you some savings for an emergency fund or unexpected repairs.

It’s worth considering, too, since there’s no guarantee your $250,000 home-buying budget will get you the same type of property in three years as it would if you bought sooner. Home prices have been rising, but what will happen in the future and what it could mean for your down payment target is hard to know.

On the other hand, a bigger down payment can equate to a better interest rate on your loan, lower monthly payment, more equity in your home right away, and not paying monthly for mortgage insurance. Because you’re borrowing less money, you’ll pay less in interest over the life of your loan and have lower monthly payments.

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