Friday, September 25, 2015

Should You Put More Money Down?

The notion of making a larger down payment is often floated by clients looking to best position themselves financially whilst buying a house. Spending 200 or even 300 thousand dollars is a daunting task for most people. The answer to query posed by the title of this article is not as simple as it seems. Many factors effect a person's finances and everyone is bit different. But there are some solid guidelines that can be applied to help determine if a big down payment is the best course of action.

The first thing to remember is that a word like "big" is relative. What is a big down payment. 3%, 5%, 10%, 20%? In the mortgage world 20% is a big down payment. If a borrower puts down 20% they generally avoid paying for mortgage insurance. This is a strong motivator for many people that are sitting on a large sum of cash. Mortgage insurance protects the lender from loss should the house default. The mortgage insurance pays the bank the difference between what the borrower put down and 20%. So if a borrower puts down 10%, the mortgage insurance pays the bank 10% if the borrow defaults, giving the bank the money they would have had if the borrower had put down the full 20%. The down payment protects the lender from loss in a default that happens early in the loan cycle. Since interest is paid largely up front if a borrower defaults in the first five years there is a good chance the bank would lose money without a 20% down payment. The insurance protects the bank, not the borrower.

If a buyer is able to put down 20% with out risking financial stability, then avoiding mortgage insurance can be a pretty big deal. Depending on the size of the loan it could easily save $100-$200 a month on the payment. Many borrowers however do not have that kind of cash. If they do, it could be the only cash they have in reserve. Having cash reserves is very important to financial stability. There is a point at which putting less down is beneficial. Right now mortgage interest rates are ridiculously low. Borrowing an extra $10,000 at a tax deductible 3.75% could be a better bet than giving up that $10,000 in cash reserves. Talking to a tax pro is always recommended when buying a house.

Before putting more money down it is well advised to carefully consider the advantages of more or less down payment. Every situation is different, but sometimes less is more!

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