To be 20% Down Payment, or Not To Be

By Chong Yi, Senior Mortgage Banker

Today’s mortgage industry is quite different than the days of our parents and grandparents.  I remember the day my dad and I discussed the interest rate that he was able to get for the house I grew up in as a child.  It was not the 4% that we are enjoying today.  In 1980, the best rate my parents were able to secure was 18% and this was considered the norm back then.

It was also the norm to put as much of a down payment as possible when purchasing, and to pay off your mortgage as quickly as possible.  At the very least, most homebuyers would put a 20% down payment so they could eliminate needing mortgage insurance. 

With interest rates being at all-time lows, putting 20% down or more may not always be the best option.  Particularly when you consider what your rate of return could be if instead, that down payment was invested elsewhere.   

For example, if a buyer were to purchase a home at $400,000, and put 20% down, the buyer would be financing $320,000.    A principal and interest payment at 4% would equate to $1,527.  If that same buyer instead put 10% down, they will be financing $360,000 with a slightly higher interest rate to offset the monthly mortgage insurance (a topic I’ll discuss further in another blog).   In this scenario, the principal and interest payment will be $1,770.  

The average buyer would look at this situation and determine it unbeneficial for them because they will be paying an additional $243 per month.  However, the savvy buyer may consider the return on investment (ROI) from the $40,000 that the buyer is saving on the down payment.  The buyer will pay an additional $243 per month so it will be an additional $87,480 in 30 years. However, if the $40,000 were to be invested in an investment vehicle that is returning at 7%, that 40,000 will be $324,659.  This will give the buyer a net ROI of $237,179 after the 30 years.

The bottom line is it’s important to not only look at the interest rate and down payment when considering your mortgage. Since there are many factors to consider, it’s imperative you work with a knowledgeable mortgage lender who is able to provide you with all of your options.

Visit us online to try our mortgage calculators, request a copy of our homebuyers guide or get started on your mortgage application!

How Do Mortgage Lenders Decide How Much You Can Borrow?

When you visit your lender to get a mortgage for your home, they will tell you the maximum amount that you are allowed to borrow. But how do they reach this total and what factors do they take into consideration?

How do they determine that one borrower can take on a bigger mortgage than the next? This decision is made by mortgage companies by considering a wide range of factors, including your credit information, your salary and much more.

Here Are Some Of The Common Ways That Lenders Determine How Much You Can Borrow:

1. Percentage Of Gross Monthly Income

Many lenders follow the rule that your monthly mortgage payment should never exceed 28% of your gross monthly income.

This will ensure that you are not stretched too far with your mortgage payments and you will be more likely to be able to pay them off. Remember, your gross monthly income is the total amount of money that you have been paid, before deductions from social security, taxes, savings plans, child support, etc.

2. Debt To Income Ratio

Another formula that mortgage lenders use is the "Debt to Income" ratio, which refers to the percentage of your gross monthly income that is taken up by debts. This takes into account any other debts, such as credit cards and loans. Many lenders say that the total of your debts shouldn't exceed 36% of your gross monthly income.

The lender will look at all of the different types of debt you have and how well you have paid your bills over the years. By using one of these two formulas, your mortgage lender calculates the size of a mortgage that you can afford.

Of course, there are many other factors that need to be considered, such as the term length of the loan, the size of your down payment and the interest rate.

Remember that when factoring in your income, you usually have to have a stable job for at least two years in a row to be able to count your income. If you want to increase your chances, you could consider paying down your debts or buying with a co-borrower, which will improve your debt to income ratio.

For more info about mortgages and your home, contact your mortgage professional.