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Basics and Importance of Down Payment

Posted on: 06th Apr, 2004 05:59 am
A down payment is the amount of cash deposited towards the purchase of a property, whether residential or business property. The down payment is not included in the loan amount. The larger the down payment, the lesser is the loan amount required to finance the purchase of the property. Down payment refers to the difference in the sales price of the property and the loan amount.

For example
, Suppose the value of a property is $400,000. Martin is interested in purchasing that property. So, he gave $100,000 in cash to the seller and obtained a mortgage loan for the remaining amount which is $300,000. Here, $100,000 is known as the down payment.

Generally, lenders require a down payment of 10% to 20% to be paid by borrowers at the time of closing. There are also lenders who accept 3% to 5% of the sales price towards the down payment. Some lenders also offer low down payment or zero down payment loans. But down payments less than 20% of the sales price often require you to purchase private mortgage insurance policy. Borrowers under this policy are required to pay for private mortgage insurance premiums until they have paid back 80% of their property value. The private mortgage insurance policy helps lenders overcome financial loss in their mortgage if the borrower fails to make mortgage payments in time.

A down payment of about 20% helps you to avail loans at lower interest rates than with down payments of 5% or less. Therefore, you end up paying lower interest throughout the loan term, especially in case of long term fixed rate mortgages. This helps you to save a large fraction of your income. Moreover, when you pay a down payment of 25% or even more, you may easily get the loan amount without the lender willing to check your past credit problems and present income.

The down payment often includes funds from a number of sources that can be your Individual Retirement Account (IRA), your 401(k) account as well as gift assistance from your relatives, friends and employer. There are several loan programs that accept gift assistance programs. Some of the sources that can help to acquire gift funds are given below:
  • Withdraw money from IRA:
    If you are a first time buyer, then under the laws set up by Internal Revenue Service, you can withdraw funds up to $10,000 from your retirement account to finance your down payment. If you have a spouse, then each of you can take out $10,000 from your retirement accounts. It is easy to qualify for such facility provided you did not own a principal residence during 2 years before the purchase of the present property. In such cases, you may not have to pay a penalty for early withdrawal but whether you have to pay taxes on the money borrowed, depends on the type of IRA.

  • Borrow from 401(k) Plan account:
    You can borrow cash from your 401(k) Plan account to make your down payment. But unlike an IRA, a 401(k) Plan account requires you to pay back the money borrowed along with the required interest. The amount repaid will be slightly higher than the amount borrowed since you have withdrawn pretax money but will be paying it back with taxes charged on the amount withdrawn.

  • Gift assistance:
    There are loan programs like the FHA (Federal Housing Administration) loans that allow borrowers to accept gift funds from relatives, friends or even your employer, the church or any non-profit organization. But the lender in this case requires you to submit a gift letter from the source as a proof of the gift funds. The best thing about this is that you need not pay back the cash provided as gift money.

  • Assistance from Government, state agencies and non-profit companies:
    There are several local and state agencies which conduct bond programs that provide borrowers with cash required for making down payments. Most agencies have purchase limits for which one can qualify provided he has the required income level.
There are also several non-profit organizations that provide down payment assistance to home owners. The gift amount is equal to 3% of the sales price or it can even extend to about $22,500 in some cases. These assistance programs require borrowers to qualify for any loan program with a particular lender. Buyers can receive free gift allowance through these programs. However, there are other gift assistance programs which require a buyer to undergo a Home Ownership Counseling Course or contribute 1% of their own funds towards the down payment. The amount of gift funds depends on the income and assets of the borrower or whatever amount of reserves are there in the bank. These programs are available with FHA, conforming as well as jumbo loans and they are offered against properties that include Single family (1-4 unit) homes, condominiums, manufactured/modular homes, properties under construction etc.

However, if paying for the down payments becomes a problem, you can apply for low down payment or zero down payment loan programs. Government sponsored agencies like Fannie Mae offers 3% down payment for long term fixed rate mortgages. Even the FHA provides low down payment loans that require 3% to 5% of the sales price as the down payment. The FHA even offers 100% gift funds towards the down payment. The Department of Veteran Affairs offers zero down payment loans but it requires that you to be a qualified veteran.
My Roommate and I are in the process of getting pre-qualified for a home loan using the state bond program in this state (wa), we completed the home buyers education seminar (required) and gave the loan officer all the requested documents.
It seemed to be going well at first, then I find out the LO was working/trying to get us approved on a set loan amount-I always assumed the LO took the info to their underwriters to see what amount a person(s) qualifies for then went from there-after repeated questions on the status of our approval (or not), and suggesting the LO look into what the underwriters would give us with the state bond help programs factored in, the LO decided to do that. Should we look into getting another LO, and what is the 'normal' amount of time to get pre-qualified with and without the use of the assistance programs? Also if we switch banks/lenders would that leave a bad mark on the credit report, if we do so before getting a loan amount?
We're new to this mortgage stuff and though I've been reading up I'm at a loss as to what to do now.
Posted on: 04th Apr, 2007 02:11 pm
"Also if we switch banks/lenders would that leave a bad mark on the credit report, if we do so before getting a loan amount?"
Before you take the loan from a particular lender, changing over to a new lender to get the loan from will not affect your credit report.

It may well appear as an inquiry on your report and when you apply for loan with various lenders within a short period of time it is considered as a single inquiry instead of multiple inquiries thereby having very less affect on your score.
Posted on: 04th Apr, 2007 02:47 pm
"I always assumed the LO took the info to their underwriters to see what amount a person(s) qualifies for then went from there-after repeated questions on the status of our approval (or not), and suggesting the LO look into what the underwriters would give us with the state bond help programs factored in, the LO decided to do that. Should we look into getting another LO, "
You should wait for some more time to see if the present loan officer does provide you that details about status of your approval.

It can be possible that because of work pressure they were not able to service your request in time. If even after your last request they do not show any sign of progress in letting you know the status then find a new LO.
Posted on: 04th Apr, 2007 04:18 pm
Hi Kwaker,

Welcome to our forums.

First of all, pre-qualified and pre-approval are two different terms in mortgage. The former implies a stage of the mortgage process when a person approaches a lender or a loan company and his financial information are gathered. Based on the given information, he is informed that there are chances of his getting the loan.

The pre-approval stage is the next step when the person actually submits his loan application to the lender and all financial and credit information are verified and reviewed prior to approving the loan.

It does not take much time to get pre-qualified. But getting pre-approved usually takes less than 60 days or sometimes within 60 to 90 days.

If the loan officer has exceeded the time period, then you may ask him the reason of the delay. There can be specific reasons for such a delay. But do remember that if you have already applied for the loan, it is usually expected that you will withdraw the application within 3 business days of applying for it. However, it still depends upon your LO if he can allow you to withdraw even after 3 days have exceeded.

Thanks,

Caron.
Posted on: 04th Apr, 2007 10:17 pm
Kwaker,

If you switch banks or lenders, I mean if you go around shopping for the loan of your choice, you may have to gather loan details (fees, rates etc.) from a number of lenders or mortgage companies. It's not going to affect your credit score in any way. So good luck and carry on!
Posted on: 04th Apr, 2007 11:58 pm
Kwaker,

Usually switching lenders or banks will not affect your score. But a number of inquiries regarding your credit profile can adversely affect your score.

Here's another thread on Effect of Inquiries on loan shopping where the community has discussed on how credit inquiries affect your score. You may refer to it for additional information.

Thanks.
Posted on: 05th Apr, 2007 12:31 am
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