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3% Down? Why Small Down Payment Mortgages Could Be a Bad Idea

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For prospective homeowners, the idea of saving up for a 20% down payment — usually tens of thousands of dollars — can often be paralyzing. As a result, small or no down payment mortgages are extremely attractive.

But as usual, taking a shortcut financially can come back to bite you. Mortgage loans that have a low-minimum down payment usually require extra fees or insurance to make it worth the lender’s while.

To determine whether a small down payment mortgage is right for you, it’s important that you know what you’re getting yourself into and how much it can cost you in the end.

Mortgages that require a small down payment

Small down payment mortgages are attractive primarily because they allow people to buy a home sooner than if they had to put a full 20% down.

This can be appealing for personal reasons since owning a house often makes it feel more like home. And it can occasionally be attractive for financial reasons, potentially saving you money compared with renting, particularly if you stay in the house for an extended period of time.

Additionally, there are several home loan programs that offer small or no down payment mortgages to those who qualify:

Veterans Affairs (VA) loans

These loans are insured by the U.S. Department of Veterans Affairs for certain veterans, service members, spouses and other eligible beneficiaries.

They don’t require a down payment or mortgage insurance but do charge a one-time funding fee of 0.5% to 3.3%, depending on the type of loan, the size of the down payment and the nature of your military service.

U.S. Department of Agriculture (USDA) loans

The U.S. Department of Agriculture insures home loans for low- to moderate-income homebuyers in eligible rural areas.

Like VA loans, there is no down payment for a USDA loan. But there is an upfront fee of 1% and an ongoing annual fee of 0.35%, both of which apply to purchases and refinances.

Federal Housing Administration (FHA) loans

Insured by the U.S. Department of Housing and Urban Development (HUD), borrowers can get an FHA loan with a down payment as low as 3.5%.

Additional fees include an upfront mortgage insurance premium of 1.75% and an annual mortgage insurance premium of 0.45% to 1.05%, depending on the type, size and length of the loan and the size of the down payment.

Conventional loans

Some mortgage lenders offer small down payment mortgages — as little as 3% down payment — to borrowers who qualify.

These loans, however, aren’t insured by a government agency, so the lender will require private mortgage insurance (PMI). The cost of PMI varies but is often between 0.5% and 1% of the loan amount. You can typically request to have your PMI dropped once you have at least 20% equity in the home.

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Learn more: Planning your down payment

The benefits of small down payment mortgages

These small and no-down payment mortgage options are designed for those with low- to moderate-incomes who either don’t have enough cash on hand for a large down payment or find it difficult to qualify for a conventional mortgage for credit reasons.

For example, you can get an FHA loan with a 3.5% down payment with a credit score as low as 580. VA loans technically don’t have any minimum credit score requirement, although you may still get denied if you don’t meet the lender’s financial criteria.

As a result, these small down payment mortgages are attractive because they make homeownership more accessible. You can save enough for a down payment much sooner than if you had to put the full 20% down, and you can secure a mortgage even if your credit isn’t perfect.

Why a small down payment could end up costing you more

Home loans with a small down payment are often billed as affordable options for homebuyers because of the fact that you don’t have to bring as much money to the table upfront. But the flipside is that you’ll likely spend more money over the life of your loan than if you waited until you had saved enough to make a larger down payment.

For example, let’s say you’re buying a $200,000 home, putting 3% down, and not rolling your closing costs into the loan. On a 30-year mortgage with a 4% interest rate, your monthly payment will consist of the following elements:

  • Principal: The amount of each payment that goes toward reducing your loan balance.
  • Interest: The amount of each payment that goes toward paying the interest on the loan.
  • PMI: Private mortgage insurance paid to a third party to protect the lender in case you default on your loan. For our example, we’ll assume a 0.75% rate.
  • Homeowners insurance: This covers certain damages to your home, the loss of personal belongings and covers your liability in the case that you accidentally injure someone or damage his or her property. Lenders typically require homeowners insurance and collect your payments in an escrow account, making payments to the insurance company for you. We’ll assume a $70 monthly insurance payment for our example.
  • Property tax: Your property tax rate will depend on your state and county. For the sake of simplicity, we’ll use a 1% tax rate for our example.

Using MagnifyMoney’s parent company, LendingTree’s online mortgage calculator, here’s how your monthly payment will break down:

  • Principal and interest: $926.19
  • PMI: $121.25
  • Homeowners insurance: $70
  • Property tax: $166.67

If you total these up, your monthly payment will be $1,284.11.

Now, let’s compare that with your monthly payment if you make a 20% down payment instead.

 

3% Down Payment

20% Down Payment

Principal and interest

$926.19

$763.86

PMI

$121.25

$0

Homeowners insurance

$70

$70

Property tax

$166.67

$166.67

Total Monthly Payment

$1,284.11

$1,000.53

That’s a savings of $283.58 per month, for a total of $102,088.80 over the life of the loan.

What you could do with the money you saved by making a bigger down payment

Even if you don’t plan on staying in the home for the full 30 years, having an extra few hundred dollars per month can make a big difference for your budget. Here are just a few things you can do with that additional cash.

  • Invest: Whether for retirement or some other long-term goal, investing is the best way to get your money to work for you.
  • Pay down debt: Student loans, credit cards, and other debts are easier to pay off when you have extra room in your budget.
  • Save: Saving ahead for home repairs and routine maintenance, as well as building an emergency fund to handle big, unexpected expenses.
  • Travel: More disposable income makes it easier to travel, whether you want to explore somewhere new or simply visit friends and family.
  • Home improvement: If your new house isn’t your dream home, you can use the monthly savings to work on renovations.

If you do plan on staying in your house for the life of the loan, that extra $102,088.80 can go a long way toward securing every part of your financial future.

How to decide if a low down payment mortgage is for you

While it’s generally better to make a bigger down payment, there are some situations in which a small down payment mortgage may be the better option.

You don’t plan on staying in the home very long

Over a 30-year period, you can save tens of thousands of dollars by opting for a higher down payment. But if you’re only planning on staying in the home for a few years, the savings won’t be nearly as high.

That said, it’s important to also consider the transaction costs.

“The cost of buying and then selling a home runs about 8% to 10% of the purchase price, depending on where you live,” said Casey Fleming, mortgage advisor and author of “The Loan Guide.” “Buying with a low down payment only makes sense if you plan on being in the home long enough to make back at least your acquisition and sale costs.”

You need the liquidity

Even if you have enough money to make a large down payment, you may not want to part with all of it. For example, you might prefer to keep your emergency fund intact rather than deplete it. Or you might want to keep some cash available for repairs. Or you might want to invest some of that money with the hope of getting a better rate of return.

“With a larger down payment, you’re taking money that’s liquid and making it illiquid,” said Dan Green, founder of Growella and the branch manager for Waterstone Mortgage in Pewaukee, Wis. “The only way to get to your money is to refinance, sell your home or take a line of credit. It’s very important that before making a large down payment that you have a sufficient emergency fund, a budget set aside for home repairs.”

Ways to build up to a larger down payment

If you’ve set a goal of making a 10% to 20% down payment on your next home purchase, now is the time to start getting your strategy in place. While it can sometimes take years to save that kind of money, there are a few things you can do to speed up the process.

Find extra cash to save

Sometimes the best way to reach a financial goal is a good mix of offense and defense.

On offense, consider finding ways to earn more money either by negotiating a raise, starting a side hustle, getting a second job or booking the occasional side gig.

On defense, create and maintain a budget to find areas where you can cut back. Set a monthly goal for how much you want to save, automate that savings and funnel any extra cash toward your down payment fund. Tools like You Need a Budget and Mint.com can help you create and execute this plan.

Pros

  • The opportunities to earn extra money are virtually endless.
  • You have control over how and where you spend your money.
  • Negotiating a raise at your current job can provide extra money without requiring extra work.
  • Starting a side hustle could bring in extra income long after you’ve reached your down payment goal.

Cons

  • These strategies can require more time than other options.
  • If you have a lot of debt and other essential expenses, cutting back can be hard.
  • Creating new habits and sticking to them can be difficult. You have to be committed for the long run.

Borrowing from family or friends

If a friend or family member is willing to loan you money, you might not have to spend time finding extra cash. You may even be lucky enough to receive the money as a gift — subject to federal gift tax rules — which would provide the money at essentially no cost to you.

However, if you are structuring it as a loan, Neal Frankle, a certified financial planner and the founder of Credit Pilgrim, recommends adhering to the current guidelines for Applicable Federal Rate (AFR), which specify minimum interest rates for various types of loans.

Pros

  • You’ll get into your new house sooner.
  • You can often get a lower interest rate from family or friends than you’d get from a lender.
  • You may have more flexibility with the repayment terms.

Cons

  • It can damage your relationship if something goes wrong.
  • Your family members or friends may not consider you trustworthy enough to loan money.
  • Not all mortgage lenders allow you to borrow your down payment.

Borrow from your 401(k)

Qualified retirement accounts like a 401(k) typically penalize you for taking withdrawals before you’ve reached retirement age.

But many 401(k) plans offer loan programs that allow you to borrow from your account balance, often with relatively low-interest rates even if you have poor credit. And if you are using the money in order to purchase a primary residence, you may be able to pay the loan back over a period of 25 years, as opposed to the standard 5-year term for most 401(k) loans.

Pros

  • You can get into your new house sooner.
  • 401(k) loans often have lower interest rates than a personal loan.
  • The interest you pay goes back into your 401(k) account rather than to a lender.

Cons

  • You’re forfeiting potential investment gains on the borrowed money.
  • If you leave your employer for any reason, your loan may be due within 90 days, putting you in a difficult financial position.
  • Not all 401(k) plans offer loan programs.
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The bottom line

There are certain situations where a small down payment mortgage might be a good idea. It can get you into a home sooner, and many federally-insured mortgage programs can minimize the costs and allow you to buy a home with less-than-perfect credit.

But in many cases, it’s better to go above and beyond the minimum down payment required. A larger down payment can save you money both in the short term and the long term, helping you invest more in your future financial security.

Making the right choice for your personal situation involves both running the numbers and taking your personal goals into account. If you do your due diligence, you’ll be in a better position to make a good decision.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Matt Becker
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Matt Becker is a writer at MagnifyMoney. You can email Matt here

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How to Host a Successful Garage Sale

Editorial Note: The editorial content on this page is not provided or commissioned by any financial institution. Any opinions, analyses, reviews, statements or recommendations expressed in this article are those of the author’s alone, and may not have been reviewed, approved or otherwise endorsed by any of these entities prior to publication.

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Whether you’re prepping for a move or finally cleaning out the basement, decluttering your home can bring you peace of mind — and extra cash. Hosting a garage sale is a great way to get rid of old or unused items. Here are a few tips to help you make your sale as profitable as possible.

When is the right time for a garage sale?

Garage sales go by many names — yard sale, moving sale, tag sale, estate sale or rummage sale — but some portion of the event will likely take place outside. If you’re hosting your sale to get rid of stuff before a move, you’ll likely be stuck to a certain date, but if you have some flexibility, consider mild seasons like spring or fall. No one likes rummaging through old items in the blazing August sun, even for good deals.

How to prepare for a yard sale

While the concept of a garage sale is fairly simple, it’s easy to mess up. Many people who host a sale see little success — often because they failed to prepare. Sure, you can just set your unwanted items out on the lawn and have passersby stop and quickly sift through everything. But when you put in a little work ahead of time, the success of your sale is much greater.

“The more preparation that you can do, the more you’ll probably make,” said Ava Seavey, New York-based garage sale expert and author of Ava’s Guide to Garage Sale Gold.

Schedule wisely. First, you’ll want to pick a day for your sale, ideally a Friday or Saturday.  Then you’ll want to take the time to sort through your belongings and carefully select the items you want to sell, choosing items that people will actually find appealing and will want to buy.

Be strategic about prices. Seavey advised that costume jewelry, furniture and collectibles have the potential to make sellers the most money. However, how you price the items is key to ensuring you will earn what these items are worth.

“A good percentage of people who go to garage sales will pay what you have written down,” Seavey said. While some people will negotiate, if your stuff is priced correctly, people will pay it, she said.

Get the word out. You will also want to focus on advertising your sale in your local newspaper and online using garage sale-specific websites and social media channels. Go ahead and describe the types of items you’ll have for sale to attract the right customers.

Be prepared. You’ll want to make sure you have all the supplies you need, including:

  1. Tables
  2. Tablecloths
  3. Pricing labels
  4. Money apron (to hold cash)
  5. Bags
  6. Paper/newspaper (to wrap fragile items)
  7. Signs (to advertise the sale throughout the neighborhood)
  8. Notebook/ledger (to keep track of items sold and money collected)

This may seem like a lot to do in order to sell a few necklaces, purses or electronics. But this preparation can make your sale more appealing and profitable. If having your own sale sounds too time consuming to prepare, you and a friend, family member or neighbor could have the sale together.

What to expect during your garage sale

On the day of the garage sale, you’ll get a variety of customers depending on what you have available for purchase. If you have advertised correctly and have the right things for sale, you could draw in a large crowd.

“I would have plenty of things for everyone. Those are the best sales, when you have a variety,” Seavey said.

Try to keep the sale going from the morning to the late afternoon. Having a sale that lasts a few hours may hinder your ability to make money because you are limiting how many people will be able to come. If your sale starts in the morning and goes until later in afternoon, you can maximize the profits from the sale because those who could not make it during the morning hours can shop in the afternoon before the sale ends.

“There is no magic time to end, but you will do most of your selling in the morning,” Seavey said. “I like to go as long as I can.”

With the money you make from your sale, you can add to or start an emergency fund, pay past-due bills, or even purchase updated items for your new home if you are moving.

What to do after the yard sale

A successful yard sale will leave a lot of money in your pocket and very few unsold items on your lawn. Consider storing your newly acquired cash in an online savings account that earns you interest. If you’re stuck with leftover items, you can always hold another sale, or you can donate them to a charity, church or secondhand store. You won’t make any money when you go this route, but there are benefits to donating.

“You have unloaded everything, you’ve made some money and you have a tax write-off,” Seavey said. “It’s a win-win-win for everybody.”

A garage sale can be the answer when you want to rid yourself of unwanted items — and even make a little money in the process.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

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Kristina Byas is a writer at MagnifyMoney. You can email Kristina here

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What the End of HARP Means for Your Mortgage

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Home values have been on the mend since the financial meltdown of just a decade ago. This has been good news for people who have struggled with negative equity in their homes, meaning the value is lower than the amount they owe on their mortgage.

The percentage of “underwater” homes has dropped significantly, decreasing 16% year over year at the end of 2018 to comprise 4.1% of all mortgaged properties, real estate research firm CoreLogic found. But that means there are still homeowners who need assistance with recovering their equity.A popular government-sponsored refinancing program aimed at helping these homeowners has recently ended, and people looking for help getting above water may not be aware of the other options they have.

In this article, we highlight and explain what the closing of HARP means for homeowners and several available alternatives.

What is HARP?

The Home Affordable Refinance Program, known as HARP for short, is an initiative that helped underwater homeowners refinance their mortgage. The program was introduced in 2009 after the housing crisis.

HARP allowed eligible homeowners to refinance their mortgages to lower their mortgage interest rate or switch from an adjustable-rate to a fixed-rate mortgage even if they were underwater. Typically, lenders will not allow a borrower to refinance if the house is worth less than what is owed.

In order to qualify, homeowners needed to meet the following requirements:

  • No late mortgage payments over the last six months that were 30-plus days behind, and no more than one late payment over the last year.
  • The mortgage you’re attempting to refinance must be for your primary residence, a one-unit second home or a one- to four-unit investment property.
  • Your mortgage must be owned by Fannie Mae or Freddie Mac.
  • Your mortgage was originated on or before May 31, 2009.
  • Your loan-to-value ratio is more than 80%.

The program had been extended a few times, but the last HARP deadline was Dec. 31, 2018.

Fannie and Freddie’s HARP replacements

Government-sponsored enterprises Fannie Mae and Freddie Mac have refinance products in place that are meant to replace HARP.

Fannie Mae’s High Loan-to-Value Refinance Option

Beginning on Nov. 1, 2018, Fannie Mae has offered a high loan-to-value refinance option to borrowers with mortgages owned by the government-sponsored entity. The product is meant to make refinancing possible for borrowers who are maintaining on-time mortgage payments but have an LTV ratio that exceeds the amount allowed for standard refinance options.

Borrowers must benefit from the refinance through a reduction in their monthly principal and interest payment, a lower mortgage interest rate, shorter loan term or by switching to a fixed-rate mortgage. There is no maximum LTV ratio for fixed-rate mortgages; however, the maximum LTV for adjustable-rate mortgages is 105%.

The eligibility requirements include:

  • The loan being refinanced must be an existing Fannie Mae-owned mortgage.
  • The loan must have been originated on or after Oct. 1, 2017.
  • At least 15 months must pass between the loan origination of the existing mortgage and the refinanced mortgage.
  • Borrowers must be current on their mortgage, have no late payments over the last six months and only one 30-day delinquency over the last 12 months. Delinquencies longer than 30 days aren’t permitted.
  • The existing mortgage can’t be a Fannie Mae DU Refi Plus or Fannie Mae Refi Plus mortgage.

Freddie Mac’s Enhanced Relief Refinance Mortgage

Freddie Mac offers the Enhanced Relief Refinance mortgage to borrowers who are current on their mortgage but can’t qualify for a standard refinance because of a high LTV ratio. The mortgage being refinanced must meet the following requirements:

  • The mortgage must be owned or securitized by Freddie Mac.
  • The mortgage can’t have any 30-day delinquencies over the past six months and only one 30-day delinquency in the last year.
  • The closing date for the mortgage was on or after Oct. 1, 2017.
  • The mortgage can’t already be a Relief Refinance mortgage.
  • There should be at least 15 months between when the original loan was closed and the refinanced loan’s origination.
  • The loan can’t be subject to an outstanding repurchase request.
  • The maximum loan-to-value ratio for adjustable-rate mortgages is 105% and there’s no max for fixed-rate mortgages.

Borrower benefits include a lower interest rate, switching from an adjustable-rate to fixed-rate mortgage, shorter mortgage term or lower monthly principal and interest payment.

Alternatives to refinancing when you’re underwater

If refinancing your mortgage doesn’t sound like the best move for you, consider one of the following alternatives.

Mortgage modification

A mortgage modification is a way to change the original terms of your loan without going through the refinancing process. In some cases, you can work with your lender to switch from an adjustable-rate to a fixed-rate mortgage, extend your loan term, lower your interest rate or add past-due amounts to your unpaid principal balance.

Modifying a mortgage could be beneficial for homeowners facing hardship who aren’t eligible to refinance and are delinquent on their mortgage payments or expect they will eventually fall behind.

Mortgage recasting

If you have a lump sum of at least $5,000 in cash, you could potentially recast your mortgage. A mortgage recasting results in lower monthly mortgage payments. You pay a lump sum of cash to your lender to reduce your outstanding loan principal amount, then your loan is reamortized based on the lower remaining principal balance. Your interest rate and loan term stay the same.

This option makes sense if you’re expecting a bonus from your employer, a large income tax refund or some other financial windfall.

The bottom line

Although HARP has come to an end, there are still options for mortgage borrowers with Fannie- or Freddie-owned loans. In order to qualify for the enterprises’ refinancing programs, it’s helpful to maintain on-time payments even when your loan amount exceeds your home’s value.

If you don’t qualify, be sure to strategize on how best to attack your mortgage balance and rebuild equity. Consider making extra mortgage payments whenever possible by freeing up room in your budget, earning extra income or dedicating unexpected money to your mission.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Crissinda Ponder
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Crissinda Ponder is a writer at MagnifyMoney. You can email Crissinda here

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