The Best Mortgages That Require No or Low Down Payment
When you’re ready for homeownership but saving for a large down payment isn’t possible, don’t fret. There are ways to get into a home with little to no money down, assuming you’re financially prepared for all of the other responsibilities that come with homeownership.
Even though access to credit has tightened some since the financial crisis a decade ago, some lenders and programs recognize there are still creditworthy borrowers who would benefit from homeownership, despite not having enough money saved for a down payment.
In fact, there was a rise in the supply of mortgage credit in January, which was a big change from December, when lenders decreased the amount of credit offered to borrowers, according to the latest data from the Mortgage Bankers Association.
When saving for a down payment isn’t possible, but the idea of continuing to pay rent isn’t appealing either, you may want to take a look at one of the following programs to make your dreams of homeownership a reality.
No down-payment loan options
One of the biggest zero money down programs comes from the U.S. Department of Veterans Affairs (VA). These loans were created to give veterans and military personnel an entrance into homeownership without requiring a stellar credit history or a down payment.
These loans are made by private lenders and are guaranteed by the VA. Certain service requirements must be met to qualify. This includes having sufficient income, a satisfactory credit record and a valid Certificate of Eligibility (COE) that shows proof of your service.
The VA offers a list of specific eligibility requirements on its website. For example, the VA noted that during World War II, the Korean War and the Vietnam War, borrowers must have served at least 90 days of active duty, unless honorably discharged or discharged due to a service-related disability before that time. During the Gulf War, borrowers must have served at least 24 months of continuous active duty, unless honorably discharged, or at least 90 days or have completed the full term that the veteran was ordered to active duty with other than dishonorable discharge. During times of peace, service members must have served a minimum of 181 days of active duty, unless honorably discharged.
The program has specific terms that need to be met, including the fact that all borrowers must live in the home they purchase. VA loans also offer more competitive interest rates and generally have fewer closing costs. In addition to veterans and current military personnel, VA loans are available to reservists, National Guard members and surviving spouses.
However, while a VA loan doesn’t require a down payment, it may be more expensive than conventional loans, according to the Consumer Financial Protection Bureau (CFPB), especially if you already have a sizable down payment and good credit. This is because there’s an upfront closing fee, typically about 1% to 3% of the loan, but you don’t have to incur a monthly mortgage insurance premium if you choose this type of financing.
U.S. Department of Agriculture (USDA) loans are also known as rural loans, as they are offered only to homebuyers purchasing in an eligible suburban or rural area. To find out if a property is located in a USDA-eligible area, the USDA recommends that potential borrowers check its website.
These loans were created to improve quality of life in rural areas by giving families the opportunity to own a modest, decent, safe and sanitary home as their primary residence in eligible rural areas. USDA applicants must meet income-eligibility guidelines and demonstrate the willingness to meet credit obligations promptly, among other requirements.
The CFPB explained that USDA loans could be a good option for borrowers who have little available savings because they offer zero down payments and are usually more affordable than FHA loans. However, with this loan, borrowers will pay an upfront fee as well as ongoing mortgage insurance premiums (MIP) to the USDA. The home also can’t be more than 2,000 square feet and can’t have an in-ground swimming pool, among other restrictions.
Also remember that the loan is limited to suburban and rural areas and, at minimum, borrowers must have an adjusted income that is at or below the low-income limit for the area where they wish to buy the home.
With both the VA and USDA loan, it’s important to note that the home must be your primary residence. The program does not allow for second homes or vacation properties, so be sure these are dwellings that you plan to live in.
Low down-payment lending options
Despite the low down-payment programs in the marketplace, some borrowers think they need to put down a large chunk of money. In fact, 15% think a minimum of 20% is a lender requirement, and 30% believe lenders expect to receive no less than 20% down, according to the Urban Institute. That’s not true for either, as there are a variety of programs designed to help borrowers get into a home with limited upfront funds.
The minimum down payment for a conventional home loan usually ranges between 3% and 5%. Conventional mortgages come from private lenders and aren’t backed by a federal agency. This is also one of the most popular options for home financing.
Fannie Mae and Freddie Mac buy and sell these mortgages, so they dictate most of the requirements. In recent years, the two mortgage giants both launched low down payment programs to help more qualified borrowers become homeowners.
Fannie’s HomeReady® and Freddie’s Home Possible® mortgage programs require just a 3% down payment. Freddie’s Home Possible program also lends to qualified borrowers who don’t have credit scores, and it doesn’t have income limits in low-income census tracts and even lets “do-it-yourselfers” to apply sweat equity to help with meeting their down payment and closing costs. Another plus is that Home Possible counts non-borrower income, which can help you qualify.
Meanwhile, Fannie’s HomeReady program also allows for just 3% down. Fannie noted that ideal borrowers have low to moderate income, are first-time or repeat buyers, have limited cash on hand for a down payment and possess a minimum credit score of at least 620.
Although mortgage insurance is required on these loans, once the borrower pays more than 20% of the home’s value, they can stop paying mortgage insurance.
However, both programs require borrowers to complete a financial literacy course. But if one borrower is not a first-time homebuyer, then Freddie’s program waives the education requirement.
Borrowers can also get a mortgage by putting far less than the often-thought-of 20% down with a Federal Housing Administration (FHA) mortgage. A recent article by LendingTree, MagnifyMoney’s parent company, explained that an FHA mortgage allows borrowers with credit scores as low as 580 and as little as 3.5% down to qualify.
However, compared with other mortgages, FHA loans have higher fees, including a 1.75% upfront mortgage insurance premium (MIP) and ongoing MIP. The downside is that FHA loans require borrowers who put less than 20% down to keep mortgage insurance for the life of the loan. But LendingTree explained that despite the higher fees, the FHA mortgage might be one of the most accessible mortgages for first-time buyers.
Experts note that FHA loans may be easier to qualify for with a lower credit score and higher debt-to-income (DTI) ratio. With an FHA loan, more borrowers can get into a fixed-rate mortgage they can afford.
First-time homebuyer programs and down-payment assistance
Don’t count out local and national first-time homebuyer and down-payment assistance programs. LendingTree explains that many counties offer 0% interest loans or grants for first-time homebuyers. Find out more by visiting the Housing Finance Agency in your area.
For example, the Maryland Department of Housing and Community Development offers home buyers assistance with their down payment to help them get into a home. There are also Mortgage Credit Certificates (MCC) that let first-time homebuyers claim a dollar-for-dollar tax credit on any mortgage interest they pay and come out better than claiming an itemized mortgage deduction.
National programs like HUD Dollar Homes lets buyers purchase a foreclosed home in need of extensive repair for $1. There are also discounts for public service workers such as teachers, firefighters and police officers. They can get as much as half off the list price of a HUD foreclosed home.
Pros and cons of a low down payment
No or low down payment is appealing, but as with anything, be sure to make a list of pros and cons, so you know what you’re getting into.
The good thing is that it puts you on the path of homeownership much sooner so you can start building equity without depleting your savings. A down payment is usually the No. 1 reason preventing would-be buyers from homeownership.
Kyle Hiscock, a realtor with RE/MAX Realty Group in Rochester, N.Y., said in a blog post that although it’s impossible to predict the future, if you’re planning on buying a home with a small down payment, you should be planning on staying in the home for more than five years because if you decide to sell before that, you may not have enough equity to cover the expenses to sell a home.
He also explained that weaker negotiating power and the loss of the competitive edge is another potential pitfall of buying a home with a small down payment.
With a low down payment, you are also responsible for mortgage insurance until you pay off at least 20% of the home’s value. Also be aware that your interest rate may be higher because the lender is taking on more of a risk by giving the borrower with less skin in the game, so to speak, a loan.
The bottom line
If homeownership is the end goal but you don’t have enough saved, getting into a low down payment program may be right for you. Make sure you plan to stay in the home for at least five years so that you don’t wind up “upside down” on the house, owing more than it’s worth if you sell.
Take your time to explore all of the different programs before deciding what’s best for your financial situation. Lenders are willing to work with creditworthy borrowers and coming up with safe, creative ways to get them into homes they can afford, with little cash needed upfront.