Many individuals who want to buy a home are delayed because of the large down payment expected. If you’re looking to buy a home in the $300,000 range, you’ll typically need to have roughly $60,000 in cash ready (plus closing costs) to make the homeownership dream possible.
The federal government recognizes how hard it is for the average person to save enough for such a large down payment. The Federal Housing Administration (FHA) makes home loans possible for millions of Americans unable to afford 20% down.
If you’re considering a new home purchase, you need to know about this type of loan and the FHA down payment requirements. You could qualify for a lower-down-payment home mortgage, but you won’t know until you do your research.
FHA loan down payments
FHA down payment requirements are lower than a conventional home loan down payment — most banks will ask you if you have at least 20% of the price of the house ready to put down. FHA down payments can be as low as 3.5%, though. But while it’s possible to put less down with an FHA loan, is making a smaller down payment a good idea?
If you can’t afford more than 3.5% of the home’s purchase price, it’s perfectly acceptable to pay that much. The higher the down payment you pay, however, the lower your monthly payments will be.
Using a mortgage calculator, let’s say you’re buying a $300,000 home. You’ll need to come up with $10,500 if you put 3.5% down. Your monthly payment on the $289,500 mortgage will be $1,220.54 before taxes and insurance, based on a mortgage interest rate of 3%. A down payment of $30,000 (10%) will drop your monthly payments to $1,138.33. That saves you over $100 per month for the next 30 years, which adds up to a significant amount of money.
Credit score and down payments
If you’re low on cash, you’re probably happy to hear you can put as little as 3.5% down on a home. It’s important to understand that your credit score will determine how much (or how little) you can contribute toward your down payment, though.
Credit score and up-front cash are related — lenders are willing to be more flexible on down payment requirements if you could show them a track record of spending responsibly and paying your bills on time. FHA down payment requirements are related to your credit score:
- A credit score of 500 or greater: At least 10% down is required
- A credit score of at 580 or more: At least 3.5% down is required
As you can see, the higher your credit score, the less money you’ll need to pay upfront. Your lender will also have a say in the approval, though — those are just the baselines that the FHA sets for this type of loan.
To qualify for the lowest possible down payment, work toward meeting FHA credit requirements and improving your credit score. Small steps such as paying down debt and keeping your credit card balances low before you apply for a home loan could boost your credit score and save you from having to come up with thousands of dollars extra for a down payment.
Mortgage insurance requirements and premiums
It’s important to keep in mind that not having enough cash upfront to pay a larger down payment will cost you in the long run, even if you qualify for an FHA loan. That’s because federal regulations require all borrowers who don’t pay at least 20% down to pay extra mortgage insurance, called a mortgage insurance premium or MIP, each year.
Mortgage insurance doesn’t give you any benefit, but you’re required to pay for it on every FHA loan. This type of insurance is designed to protect the lender from borrowers who stop paying their mortgages and default on their loans.
The extra insurance will add another fee per month that you’ll have to pay, and you’ll need to pay it for the life of your loan in most cases. Think long and hard about whether that makes this type of loan worth the more lax down payment requirements. For some people it does make sense — but that won’t be the case for everyone.
Down payment gifts
You may want to push back the date for buying a house to give yourself more time to save for a larger down payment or ask family for help. The FHA down payment requirements don’t dictate that you have to come up with the funds needed all by yourself. You can get help with your down payment by accepting gifts from an “approved source.”
Approved sources include:
You’ll need to let the lender know in writing that a relative or other approved source is helping you with the down payment. Your lender may provide you with a gift letter template for you to fill out, or you can write one out yourself and include the following information:
- Your name and the address of the house you’re buying
- Who the source is, including their address and phone number
- Relationship with the source
- The dollar amount of the gift
- The date the funds were gifted
- Form of payment (transfer, check, cash)
- A signed statement from the person saying the funds are a gift and they’re not expecting you to repay it
Include a copy of the bank statement, receipt or proof of how you received the funds.
Tips on FHA down payments
When deciding on how much to save for the down payment on your house, there are a few tips you should consider:
- The more money you put down, the less your monthly mortgage payments will be. Take more time to save extra money towards a house.
- Take into account that you will be paying MIP insurance on an FHA loan for a long time. If that’s something you can swing in lieu of a larger payment, this type of loan may be a good fit. Otherwise, you might be better off saving up for a full 20% down payment and obtaining a conventional loan, which would remove the extra mortgage insurance.
- You can ask friends and close relatives to gift you part or all of your down payment. But you’ll need to disclose that you received the funds as a gift and have them sign a statement.
- If cash is tight, work on improving your credit score — the higher your FICO is, the smaller the down payment you need to make.