BOULDER – If you’re a first-time homebuyer along the Front Range of Colorado, it’s important to understand your down payment options. A down payment is a lump sum paid upfront that reduces the amount of money borrowed. Its purpose is to demonstrate personal involvement in the purchase of a home and protect the lender against possible losses in the event of default.
Your down payment affects your loan-to-value ratio (LTV), which is the difference between the amount borrowed and the sales price. For example, if the sales price is $100,000 and the loan amount is $80,000, then LTV is 80 percent with a 20 percent down payment.
Let’s look at three common down payment options:
Three percent (or more) down payment
If you have limited funds for a down payment, you can start at three percent down, and all of these funds can be gifted from a relative. With down payments under 20 percent, the borrower pays private mortgage insurance (PMI) to insure the lender against losses in the event of foreclosure. The amount of coverage and premium are based on LTV and your credit score, with a maximum LTV of 97 percent. Payment options include a one-time mortgage insurance premium or monthly payments.
We’ve seen that the appreciation of homes in our area often outpace PMI. If you’re paying monthly, you can request an appraisal after two years. If the value of your home has gone up and the original LTV is now 80 percent, PMI may be removed (this is lender/investor dependent).
This option is comprised of 80 percent first mortgage, 10 percent home equity line of credit (HELOC or second mortgage), and 10 percent down payment. While the advantages of an 80-10-10 include a lower down payment at closing and no mortgage insurance, HELOCs often have adjustable rates, so your payment can increase over time. HELOCs can also have a balloon payment if they are interest-only.
20 percent down payment
Known as the standard down payment, a 20 percent down payment gives the buyer instant equity in his or her home, greater buying power, and lower monthly payments. Plus, it means you don’t need to purchase mortgage insurance.
For more on this subject, visit the Elevations Blog at elevationscu.com/downpayment.
By Greg Roller, Elevations Credit Union.