One of the most common misconceptions about mortgages is that you need 20% down to buy a home.
Nothing could be further from the truth.
The fact is that there has always been and always will be mortgage options for borrowers that don’t have a large down payment. Here are five loan options for those who have 5 percent or less for a down payment.
#1: Conventional Loans with PMI
Conventional loans are mortgages approved using guidelines established by mortgage giants Fannie Mae and Freddie Mac. Historically, lenders required a down payment of 20 percent. Yet in 1957, private mortgage insurance, or PMI, was introduced.
Mortgage insurance is an insurance policy that repays the lender should the borrower default. The borrower pays for this insurance policy along with their monthly mortgage payment. This extra expense can be well worth it though.
Say a home is sold for $200,000. A 20% down payment is $40,000. That’s quite a lot for new home buyers. A 5 percent down is much more feasibly, at only $10,000. A PMI policy can be purchased at a cost of approximately $150 to $300 per month, depending on credit score. But this option helps bring down the barriers to homeownership significantly.
#2: Federal Housing Administration (FHA) Loans
In recent years, FHA has been the standard for first time home buyers. Although that’s shifting because of increased offerings in conventional lending, they are still very popular.
FHA loans require as little as 3.5% down, a bit less than the conventional requirement. That means on a $200,000 loan, the minimum down payment is just $7,000.
An FHA loan has a monthly mortgage insurance requirement like a conventional loan, but it also has an “upfront mortgage insurance premium,” or MIP. The MIP is 1.75% of the loan amount, or in this example an additional $3,500. However, this upfront premium does not have to be paid out of pocket and can be rolled into the loan amount.
The monthly mortgage insurance premium for an FHA loan is typically 1.35% of the loan amount per year, divided into 12 equal installments and added to the monthly payment. For example, a $200,000 total loan amount would require $225 per month in mortgage insurance.
Although an FHA loan is more expensive than its conventional counterpart, it allows for a lower credit score and offers more lenient income requirements, making it the best program for some home buyers.
#3: VA Loans
This program is a special entitlement offered to active duty personnel and veterans of the U.S. armed forces. The VA loan requires no down payment whatsoever. In addition, there is no monthly mortgage insurance premium, just an upfront premium, usually 2.15% of the loan amount.
The minimal costs associated with this loan make it the clear choice for current and former members of the military.
Those who have served in one of the branches of the military including the National Guard or Reserves could be eligible.
#4: USDA Loans
Sometimes referred to as the Rural Development Loan, the USDA program requires no down payment. As the name implies, the program is designed to assist borrowers buy and finance a property in rural, less urban areas.
In order to qualify for a USDA loan, the property must first be located in an eligible area. These areas are mapped on the USDA website. This is the first place borrowers should visit to see if a prospective home is eligible. By entering the address on the website, the property’s eligibility will be determined.
Eligible areas are often rural in nature, but surprisingly, many eligible areas are suburbs of bigger metropolitan areas. Even if you don’t think the area in which you’re looking to buy a home is eligible, it’s worth taking a look at the USDA loan map.
You could discover that you’re able to buy a home with zero down payment. Contact a USDA lender to apply.
#5: Fannie Mae HomePath
Editor’s note: Fannie Mae ended their HomePath program on October 6, 2014. For more details, visit our Fannie Mae HomePath page.
Fannie Mae has a list of foreclosed properties that it offers for sale on the website HomePath.com. Buyers can look for homes in their area with a simple city or ZIP code search.
Home buyers can purchase these homes with only 5% down. What’s more, buyers receiving a gift from an eligible gift source only need $500 of their own money.
Unlike a standard conventional loan, Fannie Mae HomePath loans don’t require mortgage insurance or an appraisal. Some of the properties may be in need of repair, but they provide a great opportunity especially for first time home buyers who have little to put down on a home.
A 5% Down Payment is All You Need
Lenders have realized that it’s unrealistic to require a 20% down payment considering today’s home prices. That’s why many programs are available, even to those with less-than-perfect credit and little money saved.
And current interest rates make it even more affordable to buy a home. Contact a reputable lender to find out which of these programs might work best for you.