The down payment is one of the main setbacks for would-be home buyers in today’s economy.
You typically need to put 20 percent down on a home in order to qualify for a favorable mortgage, and most people don’t have that much cash available to use.
For a $200,000 house, a buyer would need to supply $40,000 in cash for the down payment.
While there are government programs in place for first-time homebuyers and other groups that allow for a smaller down payment, you’ll be subject to private mortgage insurance, higher interest rates and predatory lenders if you don’t put 20 percent down.
There are two ways to solve the problem of not having enough for a down payment: save more money or tap various sources for money to use.
Ways to Save Money
You should have your down payment saved before you attempt to get preapproved for your mortgage, so start saving as early as possible. Besides tightening your budget, here are some simple ways to build up your house fund:
Automate your finances: Set up a designated down payment savings account and have a portion of your paycheck automatically routed to it each pay period. Designated savings accounts and automatic transfers are both powerful psychological tools.
Increase your withholding: If you have trouble motivating yourself to save money, let the IRS help you out. If you increase your tax withholding amount through your employer, you’ll have more money taken out of each paycheck for taxes, which means you’ll get a larger tax refund at the end of the year. Not everyone subscribes to this strategy because you’d essentially be giving the government an interest-free loan. But if it helps you successfully save for a house, it may be worth doing.
Pay off high-interest loans: It might sound counterintuitive to save money by spending it, but in the long run you’ll save more money by avoiding paying interest on your debt. Paying down debts is doubly important for prospective homeowners because you’ll need a good credit score in order to qualify for a mortgage loan.
Put savings into a CD or money market fund: A certificate of deposit or money market fund will likely provide a better rate of return than a regular savings account. Make sure to select a CD that matures before you’ll be purchasing a house.
Sources for Down Payment Money
Just because you don’t have a large savings account or a flexible budget doesn’t mean you’ll never be able to buy a house. You may have more options for financing a down payment than you think.
Equity on another house: If you currently own a home and are trying to move to a new home, the equity you already hold in your current home may be enough to fund your down payment. If the market is rising, you may even consider buying an inexpensive house, building equity in it and then selling after it has appreciated enough to fund a down payment on a nicer house. This process can take years and home appreciation is never a guarantee, so make sure you could reasonably live in the starter house you choose.
Gifts: If you have a close family member who is willing to help you put money down on a house, take them up on the offer. Your family member can donate up to $14,000 per year to you without either party paying taxes on it. Many lenders will require a gift letter to accompany the gift as verification that you won’t be expected to pay any amount of it back in the future, which could jeopardize your ability to pay back your mortgage loan.
Personal loans: If your family isn’t willing to donate money to your cause, maybe they’d be more comfortable with lending you money. This benefits you because you wouldn’t have been able to get a loan elsewhere, and it benefits them because they can charge an interest rate higher than they’d likely get by investing. Your mortgage lender may or may not allow a personal loan for your down payment. At the very least, your lender will scrutinize the loan and make sure it meets certain standards.
Borrow from your 401(k): If your employer allows it, you can borrow up to half your vested balance or $50,000, whichever is less. If 50 percent of your vested account balance is below $10,000, you can borrow up to $10,000. You won’t incur taxes or penalties from borrowing from your 401(k), as long as you pay it back. It’s a risky strategy, however, because you may lose your job or transfer companies. In that case you’d be responsible for paying it back within 60 days. If you don’t leave your company, the only detriment to you is the loss of interest you would have earned on that money by keeping it invested.
Tap into your IRA: You can withdraw up to $10,000 from your IRA under certain conditions—you must use the money for a down payment on a house, you must be a first-time homebuyer and you must use the withdrawal within 120 days. If you meet these requirements, you may be taxed but you won’t pay any penalties.
Your employer: If you work for a university, municipal agency or large corporation, there may be programs in place to help employees buy a house. Check with your human resources department to see what your employer can do for you.
Talk with Your Lender: If owning a home is one of your short-term goals and the 20 percent down payment is holding you back, consider tapping your available resources and saving more money over time so that you’ll meet your goal. Talk with a lender to see what kind of house you can afford so you know how much you need to save for a down payment. Knowing the end goal will help you save smarter so you can make your dreams of homeownership a reality sooner than you ever thought.
Jon Sanchez is a registered representative offering securities and advisory services through Independent Financial Group, LLC (IFG), a registered broker-dealer and investment adviser. Are you ready to build a portfolio that meets your goal? Meet with Reno’s premier financial adviser, Jon Sanchez. Contact (775) 800-1801 or visit www.sanchezwealthmanagement.com to learn how our team can serve you.