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My wife and I want to buy a house. The price is well within our means. The mortgage payment would be less than 25% of our gross income and we have no other debt, so we're comfortable with the payment.

However, a 20% down payment would wipe our savings. We'd be much more comfortable doing 5-10%. Would this prevent us from getting a mortgage? Would the interest rate go up if we don't do 20% down? We have excellent credit, steady jobs and could do 20%, we just really don't want to tie that much of our savings up. What do you think?

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2 Answers

up vote 6 down vote accepted

If you have good credit, most banks should be comfortable giving you a loan that you can clearly afford for only 10% down.

If you put less than 20% down, you'll almost certainly have to pay for PMI (Private Mortgage Insurance). This will be rolled into your regularly monthly payments. Once you've paid enough of your mortgage off that you have 20% equity, you'll be able to have PMI removed. If you only pay your minimum payments, PMI will not go away for several years, but if you put extra money toward principal, you can get rid of it sooner, or possibly ask your bank to re-appraise your house if you feel it has appreciated enough or you have done some improvements that raise your equity above 20%. Note that taking it off early is typically subject to a "seasoning period" of a couple of years, during which you cannot have PMI removed from your loan.

Also remember that there are a lot of costs associated with buying a house (closing costs). You can ask that the seller contribute to these in your offer (in exchange for a slightly higher price). It's the same for them, and you keep a bit more of your savings. Typically, this is 3-5% of the price, but can only be applied to your closing costs (you don't get cash, you just don't write as big of a check to the bank for your down payment, tax escrow, etc.)

Edit: I'm actually in this situation myself. Had an offer accepted on a home for $150,000 with 3% back ($4500). I'm putting 10% down, am locked in at 3.990%, and will be paying about $77 every month in PMI. My plan is to start aggressively paying down principal starting in about a year, such that I'll have 20% in equity by Q3 2014, at which point I can get rid of PMI. Without doing that, I'd be paying PMI well into 2017.

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There are many alternatives to the cost of PMI. Talk to the local banks, there are still local ones who will be willing to offer an 80% mortgage with a HELOC (home equity line of credit) on top for the remaining 10%. Even though the rate on the HELOC is higher, it's better than paying the 1%+ on the entire mortgage until you amortize to 80%.

Another choice - do you and the MRrs have a 401(k)? You can borrow up to 50% of the balance at a decent rate and pay it off over a 10 year period. This is still better than the PMI, and you can always pay it back faster if you wish.

Last - any friends/family from whom you'd be comfortable getting a loan for that 10%? Many would not even touch this, preferring to never borrow this way, your choice.

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Be careful with the 401K loan. If you leave the company before you are done repaying the loan it may come due immediately. Which could drain your savings at the worst possible time. –  mhoran_psprep Jan 4 '12 at 23:35
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Warnings on the 401(k) loan are always advised. You are certainly right. I went with "steady jobs" here. –  JoeTaxpayer Jan 5 '12 at 0:11
    
The advantage of the 401(k) loan is that you pay the interest to yourself though. –  draksia Mar 27 at 17:02
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