When buying a home, nearly all buyers will use a mortgage broker to help with the funds required to pay the seller the agreed upon price. In the series “parts of a mortgage” I will cover the different aspects of a mortgage that you will need to be informed about.
The Down Payment
The down payment is the money you put towards the home at close, while the bank will cover the rest. For instance, if you purchase a home for $100,000 with a 20% down payment you will pay $20,000 while the bank will cover the remaining $80,000 of the mortgage and the seller will receive the full $100,000. Another way to think about the down payment is that it is your starting equity (i.e. amount you own) in the home. So, why does the down payment matter?
Offer Strength
Your down payment will affect how strong your offer looks compared to a rival in a competitive offer situation. The old saying cash is king does have affect on multiple offer scenarios. To a seller, a mortgage with a higher down payment can appear more stable and likely to close than a mortgage with a lower down payment, therefore, the more money you are willing to put down at close may make your offer look stronger to in a seller’s eyes.
Interest Rate
Your interest rate will be affected by your down payment. Larger down payments will typically result in a lower interest rates. This is due to the fact that banks will see you as a less risky loan and will offer slightly better rates in most markets. The change in rate is market dependent and you will likely see the improved interest rate at around 25% down payment. In an environment of low interest rates (as we are currently seeing) the down payment % can have less of an impact on your monthly payment because interest rates are very low overall. However, in an environment of higher interest rates, a higher down payment is one way to lower your monthly payment by decreasing your interest rate.
Equity
As mentioned earlier, equity is the amount of the property you own (i.e. not mortgaged). Each month when you make your mortgage payment, you will gain some equity in the property as the principal loan amount decreases. When you have a larger down payment, your monthly mortgage payments will have less interest, and therefore you will gain more equity with each payment. This can help with net worth and put more money in your pocket when you sell the property.
Final Thoughts
A higher down payment is normally the best option when buying a home. As of August 2020, interest rates are 2.85% on a 30-year fixed rate mortgage. With the current interest rates buying a home with any down payment will very likely be a good use of your money and a lower down payment is okay. When interest rates rise, a higher down payment is a good option to avoid paying more in interest. As always, the market is continuously changing and new offers are coming and going. Be sure to consult with a mortgage broker or reach out to me for more information on how to move forward.
Interest Rate
Your interest rate will be affected by your down payment. Larger down payments will typically result in a lower interest rates. This is due to the fact that banks will see you as a less risky loan and will offer slightly better rates. Don’t expect the interest rate to be massively lower but slightly lower rate is realistic in most markets. The change in rate is market dependent and you will likely see the improved interest rate at around 25% down payment.
Equity
Each month when you make your mortgage payment, you will gain some equity in the property. When you have a larger down payment, you will be making payments that account for less interest and, because of this, you will gain more equity with each payment. This can help with net worth and put more money in your pocket when you sell the property.
Final Thoughts
A higher down payment is normally the best option when buying a home. Right now, August 2020, interest rates are 2.85% on a 30 year fixed rate mortgage. With the current interest rates buying a home with any down payment will very likely be a good use of your money and a lower down payment is okay. When interest rates rise, a higher down payment will be the better option to avoid paying way more in interest.
