There are many ways home buyers can come up with a required down payment. Here are the top methods.
Grants from State Governments
Many first-timers may qualify for down payment assistance. Down payment assistance can take the form of outright grants or low- to no-interest loans. For example, Nevada’s Home Is Possible program allows eligible applicants to get grants of up to four percent of the home loan amount for down payment assistance and closing costs. Here are the qualifications:
- The minimum credit score is 640 for state-government-insured loans, 660 for manufactured homes and 680 for most conventional loans.
- Qualifying income on mortgage application must be less than $95,500.
- The home price can’t exceed $400,000.
- A home buyer education course must be completed.
- Applicants must meet ordinary state-government or conventional loan underwriting requirements.
Many other states have similar programs with comparable requirements. Buyers can simply search online for “down payment assistance” in their state. Understand that acceptance is not automatic; you’ll have to meet income, credit and other standards to qualify for financing. Check your state housing authority website for more details.
Loans for Down Payments
Other programs allow you to borrow some or all of your down payment. For example, Washington State’s Home Advantage program lets eligible homebuyers borrow up to four percent of the first mortgage amount at zero percent interest. So, if you bought a $100,000 property with a 96.5 percent FHA loan, you’d apply for a maximum first mortgage of $96,500. Four percent of $96,500 is $3,860. That’s enough to cover the 3.5 percent minimum FHA down payment plus kick in $360 for closing costs. There is no repayment for 30 years. Ask a participating lender about details about programs in your state.
For most mortgage programs, there are restrictions on borrowing for your down payment. Check with your lender before borrowing a down payment. On the other hand, borrowed funds eventually become seasoned — indistinguishable from other assets. For example, if you took out a personal loan several months ago and the money is in your checking account, it’s considered part of your assets. The loan and its payment will have to be disclosed and counted in your debt-to-income ratios.
Good Neighbor Next Door
This plan is offered by HUD, and is available to teachers and first responders — they don’t need to be first-time buyers. The property does have to be their primary residence, however. The program allows “good neighbors” to purchase HUD Homes, which are FHA foreclosure properties owned by HUD, for half price. Yes, that’s half price.
Here’s how that works. Eligible borrowers can shop for homes on HUD’s web site and then submit their offers through any licensed real estate agent. Usually, there is a window in which investors are not allowed to bid for these home, so buyers who want to live in the homes get first shot at them.
Buyers get a first mortgage (usually FHA) plus a zero interest second mortgage in the amount of half of the home’s sale price. This “silent second” requires no payments. Once the buyer has lived in the property for 36 months and delivered all annual certifications, the second mortgage goes away, and the homeowner can do anything he or she wants with the property. HUD Homes can be purchased with as little as just $100 down if “good neighbor” buyers choose FHA financing. Conventional (non-government) loans are potentially available with as little as three percent down. VA and USDA loans generally require no down payment.
Some programs run out of money early and buyers end up on waiting lists. To be successful in the quest for free money, it’s best to start early, finding and applying for loans and grants. Then you can choose and buy a home — perhaps a couple years ahead of schedule.
Many loan programs allow a close friend, relative, charitable organization or employer to give you some or all of your down payment. There are three main considerations for gifts:
- The money cannot come from anyone who will benefit from the sale, like the seller, real estate agent or mortgage loan officer.
- The giver must prove that he or she has the money to give (by providing bank statements or other documents).
- The giver must provide a gift letter that states that the money is a gift and that repayment is not required.
If the amount gifted is significant, the giver should probably consult a tax pro before providing the money, or he or she might end up with an unexpected “gift” as well – a bill from the IRS for gift taxes.
Borrowing from Retirement Accounts
If you want to take advantage of today’s cheap real estate and low mortgage rates, you may be able to borrow up to $50,000 from your 401(k) account. If your employer allows you to borrow from your 401(k) plan (most do), you can borrow 50 percent of your vested balance or $50,000, whichever is less. You are normally allowed up to five years to repay the loan, unless you are borrowing the down payment for your first home; in that case, you get more time. You pay interest on the loan, but it’s not a big deal – because you are borrowing from yourself, you’re paying interest to yourself. Getting the loan is relatively easy; you just have to complete a short form or make a phone call.
There are some pitfalls to be aware of. First, you sacrifice the earnings on that money while it’s not in your account, and you repay the loan with after-tax dollars, so you lose some tax deferral advantages. The biggest risk, however, is that if you lose your job or change employers, you have to completely repay the loan in as little as 60 days. Otherwise, it’s considered an early withdrawal and taxes as ordinary income – plus there’s a 10 percent penalty. On a $50,000 withdrawal, that’s a $5,000 penalty plus $12,500 in taxes at 25 percent. Yikes!
Many buyers get their down payments by selling an asset – other real estate, shares in mutual funds, stocks or other marketable securities, or tangible things like cars art or collectibles. If you sell something and put the money into your checking or savings, it eventually becomes seasoned and considered part of your cash. However, if you sell an asset just prior to applying for a mortgage, you’ll have to provide a paper trail for the lender.
You must prove that you owned the asset in the first place and that you sold it (provide a copy of the bill of sale, for example). You’ll need to document the item’s value — your car’s worth can be established with the Kelly Blue Book, and jewelry can be valued by a GIA-approved appraiser. Most collectibles (for example, baseball cards) have online valuation sites that can provide an estimate of their fair market value. Understand that if your sales price exceeds the appraised value of the item, underwriters will only consider the lower amount.
Tapping savings to make your down payment is fairly straightforward, as long as the money has been in your account for some time. Lenders usually want to see account statements covering two or three months. Any large deposits that show up during that time will have to be explained and documented. In addition, you may have to explain how you saved the money if the balance is much higher than the “average balance” shown on the statement. Finally, if you’ll be providing checking account statements, don’t bounce any checks during that period. Mortgage underwriters have been known to hold up or even decline loans to applicants with multiple bounced checks on their statements.
There are many acceptable sources for mortgage down payments, and many programs that don’t require 20 percent down. They make it easier for first-timers and others to clear the down payment hurdle and acquire property.