We’ve got you covered on down payment details, from how big your down payment needs to be to where you can get it from.
Questions & Answers
To find out how much you can afford to pay for a new home, you should consider your annual income, your recurring monthly debts (such as car payments, student loan payments, etc.), your target monthly payment (using your current rent amount is a good place to start), and your down payment amount. It’s also wise to set aside money for unexpected repairs or financial emergencies to make sure you have all your bases covered. By reviewing these amounts, you’ll determine how much you’ll feel comfortable paying for a mortgage each month.
When calculating how much home you can afford, your debt-to-income ratio (DTI) is a great place to start. To find your DTI, divide your total income before taxes by your minimum monthly debt (debt such as car payments, student loan payments, etc.). As a rule of thumb, a DTI under 43% will allow you to qualify for a conforming mortgage. Calculating your DTI will help you decide which loan program to choose.
In addition to DTI, determine your total income before taxes and then calculate the percentage of your income that you’ll put toward your mortgage payment and your existing debt each month. After that, the remaining amount should cover your living expenses and savings goals, as well as any unexpected repairs or financial emergencies.
Your down payment will depend on your home’s purchase price, as well as the type of loan you choose. The amount of your down payment represents how much starting equity you'll have in your home, and conversely, how much you'll still need to pay to fully own your home. Varying loan programs require different down payment percentages, generally ranging from 5-20%. The amount of your down payment also impacts your interest rate and determines whether you’ll need to pay private mortgage insurance (PMI) as part of your loan payments each month.
While 20% is typically recommended, lenders may allow for a lower down payment. Note if you plan on putting less than 20% down, you may be required to pay Private Mortgage Insurance as part of your monthly payment. This insurance will protect the lender in case you default on your loan. But, you can often cancel your PMI and its payments as soon as you reach 20% equity in your home.
To purchase a home with less than 20% down, you’ll either need to purchase Private Mortgage Insurance, find a loan program with low down payment requirements, or apply to a payment assistance program. Since PMI means you’ll likely have slighty higher monthly payments (typically between 0.5% to 1% of the entire loan amount on an annual basis), some borrowers choose to wait until they’re able to afford a larger down payment to reduce their monthly payments.
To figure out how much you need to save, first determine the price of the home you want to buy. For example, if you’re putting 20% down and your home’s purchase price is $200,000, you would need a $40,000 down payment. You also need to take closing costs, which are generally 2-5% of your home's total cost, into account. So in this case, closing costs would generally be no more than $10,000.
While the benchmark percentage for a down payment is 20%, the down payments for recent first-time home buyers range anywhere from 0-20%. With today's loan options that provide opportunities low down payments and down payment assistance programs, you have the flexibility to choose the down payment that's best for you. Keep in mind that a lower down payment could mean higher monthly payments over the life of your loan.
There are various options for help with your down payment, ranging from state assistance programs to loans with low down payments provided by the Federal Housing Administration. In addition, family members can provide you with gift funds to put toward your down payment.
Some borrowers may qualify for loan programs that allow for lower down payments, which can be beneficial for first-time home buyers or those with lower annual incomes. The most common loans are provided by the Federal Housing Administration (FHA) and typically require a minimum 3.5% down payment. In addition, the Veterans Affairs (VA) and Department of Agriculture (USDA) programs provide mortgage loans with no down payment.
In the mortgage world, gifts are funds given by a family member to assist with a down payment, closing costs, or financial reserves required to receive a mortgage loan. Generally, lenders require that the person giving the gift and the person receiving the gift be related by blood, marriage, adoption, or legal guardianship. The giver can also be the recipient’s fiancé or domestic partner. Although uncommon, lenders will occasionally accept non-relatives as gift donors.
While the homebuyer receives the gift funds tax-free, the person giving will need to pay taxes if the gift exceeds the gift tax exclusion limit, which is $14,000 per person per year.
While there’s no maximum gift amount in a mortgage loan, there is a maximum amount of untaxed gift funds for annual gifts and lifetime gifts.
The annual gift tax exclusion limit for 2017 is $14,000.
Lifetime gifts are money given over the course of a person’s life. The limit for 2016 is $5.45 million, meaning that a donor may give $5.45 million in his or her lifetime without paying taxes on the funds.
As long as your parents are related to you by blood or are your legal guardians, you can use their cash for a down payment. And, by combining their gift funds, spouses—your parents, in this case—can double the gift amount while still falling within the annual gift tax exclusion limit. For example, your mother could gift you $14,000 without being taxed on the funds. Your father could also contribute $14,000 this year to double the gift, for a total of $28,000 from your parents.
To use a gifted down payment, you and the person giving must sign a gift letter provided by your lender to confirm that the funds were truly a gift, and not a loan. Then, the gift giver will need to provide a bank statement to prove his or her ability to provide the funds.
Depending on your loan program and the amount of money you put down, you can use gifts to cover all or part of your down payment. Generally, FHA loans allow you to use gift funds to pay the entire down payment, while conventional financing requires that you put your own funds toward a certain percentage of the down payment. Also, remember that only the person giving the gift will be taxed on the gift funds; you will receive them tax-free.
Most lenders allow down payment gifts, but the maximum amount depends on your mortgage loan program. It’s important to check with your lender on their policies before receiving gift funds.