How much money should we NOT put into the down payment on a house?
February 13, 2010 9:32 AM   Subscribe

How much money should we NOT put into the down payment on a house?

SO and I are hoping to buy a house this summer (we will both be first time home buyers). We have about $30k saved now and are trying our damnedest to save so that we can put 20% down by the time we buy. I'm not sure if we'll be able to get there or not. We could wait, but due to our work schedules, the summer would be much more convenient (not to mention mortgage rates are low). Anyways, that is an issue of its own.

However, we're not sure how much money to NOT put into our down payment. It'd be silly to spend our entire savings on the down payment and have $0 left over. I realize we'll have to cover closing costs, insurance, our usual bills, etc. I also realize having a decent emergency fund is always good to have.

Is there a general number that's good? Or should we say something like "x months worth of mortgage/bills/etc"?
posted by NHlove to Work & Money (17 answers total) 14 users marked this as a favorite
The answer depends in part on your location. Places with higher costs of living require a larger cash cushion because of higher lawyers' fees, insurance costs, and daily life expenditures.

As a general rule: spending all your cash on a downpayment and closing costs is a bad idea.

Why not just postpone the purchase until you have more cash?
posted by dfriedman at 9:35 AM on February 13, 2010

In this economy, depending on your location and the type of work you do, you should have an emergency fund covering 6-8 months of living costs. I think people with houses should have bigger emergency funds than people in apartments because if things get really bad and you have to sell, you may not be able to sell the house quickly.

Use a conservative estimate of closing costs and moving costs, and add 10%.

Also keep in mind that living in a house will have both expected added expenses (property taxes, higher utility costs) and possibly surprising costs associated with basic upkeep (garbage cans, lawn mower, garden hose, snow shovels, ladders, salt, furnace filters, etc.). You'll also need to save for regular maintenance and big upkeep costs (furnace cleaning, eventual furnace replacement, roof repairs, appliance repairs, painting, etc.) So when you're estimating your living costs, don't forget you can spend some serious money right after moving in and that a house takes more out of your budget every month.
posted by maudlin at 10:07 AM on February 13, 2010

Talk to/engage a realtor. They should have a form or spreadsheet that will calculate your total closing costs (including 20% down, taxes, fees, etc.), based on the price of the house.

Also, run up your own spreadsheet. One one side, all your assets (savings, CDs, etc.). On the other side, all your potential liabilities - all closing costs, moving costs, potential decorating costs/furniture and appliance costs, and so on.

It's amazing how much other stuff there is to think about. Making a list helps you to cover all your bases and avoid surprises.
posted by carter at 10:12 AM on February 13, 2010

The answer depends on your income, your job security, and your risk aversion. For example, given my particular situation, I am comfortable with almost zero liquid reserves (my income is much higher than I need to live and my job security in the short-run is near-ironclad), and I would not myself wait to buy a house until I could afford to fund a $10-15K savings account with money not used for the purchase. If I had a second income to rely on, I would be even less inclined to fund an emergency fund. That said, your situation is different; if you will be living paycheck-to-paycheck when you buy a house and/or if there's a chance of one or more of you losing a job, I'd be a lot more conservative.
posted by deadweightloss at 10:13 AM on February 13, 2010

Putting 20% down gives you a lot of power - we did that, and walked away with the seller paying closing costs, plus a sizeable credit for repairs. Two of the important factors to consider are: what kind of changes you need to make after you've moved in and how quickly you can start saving money again afterwards.

So for example, if you find a house that needs no repairs or decorating, you have all the furniture you need (including a fridge/freezer, washer/dryer), your realtor is capable of negotiating the closing costs, and you can start budgeting maybe $500 a month to go back into savings, you could easily budget more of your savings for the down payment. In that case, the right kind of emergency fund is usually enough money to cover 3 months of your necessary expenses (food, mortgage, gas, car payments).

But if you find a house that needs it's roof replaced and driveway re-shaped (as we did, ugh), then you'll need to squirrel away more than an emergency fund, because with an incomplete house, you'll find yourself buying odds and ends on top of the repairs to get your living space up to your own standards, which obviously impacts your ability to start rebuilding your savings again. I'd say aim to come out of this type of purchase with at least $10k. More if you have poor health/no health insurance. Don't forget the tax credit available for first time homebuyers.

All in all, consider the type of house you want to purchase, and the type of life that you lead and if you're willing to cut back in order to get what you want sooner (eg: we live in SoCal, and decided it was ridiculous to spend $500 on a dryer, and now have a $10 washing line). Get a realtor that knows to negotiate that the seller pays closing costs, and if any significant repairs are needed that a credit from the seller can be asked for. Get a really good house inspector, one that will walk you through the house and provide a written report with photographs for reference, and take notes on the house as you walk through. If repairs are needed, get recommendations and get quotes, so you can sit down with a list of how much money you'll have left over after you've closed and decide if it's enough. If it's not enough, you can move onto another house. You don't have to buy a house you can't afford. It's really the prep work that leads you to save money when you close on the property.

The work to get 20% down is worth it, especially if it results in a mortgage that costs less than any rent you're paying now. Disclosure: we did actually borrow money from my husband's parents to finalise the down payment, but thanks to our low mortgage rate (yay 5% for the rest of our lives!) we can afford a separate savings amount per month to pay them back within the next 5 years.
posted by saturnine at 10:18 AM on February 13, 2010 [2 favorites]

Maudlin beat me to the punch but me thoughts are the same. You want at least 6 months of the basics and don't underestimate the costs of moving in. Take stock of everything you own and everything you may need in the new house, down to the curtains.

One thing to keep in mind is that if a house has deficiencies you can often get the repair costs added to the loan and use that as your emergency fund until you have saved to do the work. For example, many of the older houses offer flooring allowances that are paid to the buyer by the seller at closing, or a roofing allowance if the roof is acceptable but will need replacing in a few years.

Also, if your lender is not requiring the 20%, you could put down a lower amount, say 15%, and after a year or so you can make a large payment on the principle amounting to the remaining 5% and get your PMI payments eliminated. Check with your lender and verify on the Truth in Lending Statement that you will not be penalized for this.
posted by Yorrick at 10:24 AM on February 13, 2010

This is an unconventional opinion, but you should put down as little as you are permitted to, in order to get the best financing terms. The 20% rule of thumb is a good one, but turn it on it's head. You should be able to afford to put 20% down, but you shouldn't actually put 20% down. The down payment is a security deposit that exists to protect the bank in case you default or your house's value plummets.

All else being equal, a larger down payment gives you nothing except a slightly lower loan balance on which to pay interest. You can always pay down principal down the line once your liquid savings have grown, so there's no compelling reason to commit yourself now, when your savings are slim (as long as you can comfortably afford the monthly payment, that is). You need a comfortable cash cushion in case of unexpected repairs, job loss, etc.

Some loan products will charge you a lower interest rate, the more you put down. In a case like that, you should consider making a larger down payment to reduce your cost of capital. But a regular FHA or Fannie Mae loan will charge the same (very low) rate regardless of whether you put 3.5% or 20% down.
posted by boots at 10:24 AM on February 13, 2010 [5 favorites]

money is fungible. You want to put down the minimum amount that you can to get the lowest rate possible on the mortgage, and to be honest you might not even want to do that if the marginal difference in rates is pretty small. You are no more secure in your home with a bigger equity cushion. This of course assumes you are responsible enough to realize that the money you didn't put into the down payment is savings and not spending money.
posted by JPD at 10:26 AM on February 13, 2010 [1 favorite]

You know what sucks? Being house poor.

When you move there are tons of cost that you can list: inspections, movers, taxes. Then there are tons of costs that you don't plan: furniture that doesn't fit into new rooms, window coverings, closet organizers.

Your house is your largest investment, but it's also your home and your haven. If you spend every penny acquiring it and leave nothing to do repairs and decor, then you'll be pretty darn unhappy. Advice from my mom - you need 1 to 2 full mortgage payments to spend on a new home to make it your own. You'll easily spend that money over the first six months getting rid of ugly wallpaper, having the electrician come an add some outlets and landscape lights, repainting....

There's something depressing about coming "home" to a house that doesn't feel like it's yours. If you know you're too cash strapped to make changes, then you'll feel even worse.
posted by 26.2 at 10:46 AM on February 13, 2010

Putting 20% down gives you a lot of power - we did that, and walked away with the seller paying closing costs, plus a sizeable credit for repairs.

Unless you were buying direct from the seller without a mortgage, this won't be the case. You can negotiate all those things with a 3.5% down payment. The sellers get their money and don't care if its yours or a bank's. It makes no difference. A 20% down payment can give you a good position with regard to getting your mortgage, but as others have said, 5% interest is pretty low, and you can get that with 3.5% down in an FHA loan.
posted by the christopher hundreds at 12:39 PM on February 13, 2010 [2 favorites]

We closed on our house in Dec 09.
We thought about it and decided to put 20% down. Why?
Because we're not getting great returns on our other savings instruments.
We could avoid paying title insurance (I think.)

We also chose a 15yr mortgage because of the slight decrease in the interest rate.

We do have ~3 months in a savings account and $$ in a couple of 401k accounts (we don't plan to ever touch--unless we're in a life changing emergency.) In such an emergency we'd need time to sell the house etc.
When we get the $8k 'first time buyer's credit' we've planning on sticking it in our fairly accessible (low penalty for lowing the balance) savings account.

Our decisions were made based on particular circumstances:
We won't move (his young son lives here. We're where we want to be.)
Our jobs are very stable.
We're pretty easy going wrt 'emergency repairs' (we thought nothing of showering at the gym for a week when the new house's water heater needed to be replaced.)
If our situation or personalities were different our mortgage choice would likely have been different.
posted by Twist at 1:11 PM on February 13, 2010 [1 favorite]

26.2 hit on a really important point - "Your house is your largest investment, but it's also your home and your haven."

Just my two cents.... but this is a really good point to think on.

Are you buying the house because you see it as an investment, or are you buying it because you feel it will increase your level of comfort/security/etc in life - or are you genuinely trying to combine the two? Most people don't consider these facts... buying a house is just what you do, using a mortgage, and you can't lose (which is obviously not true, given recent events).

And from an investment perspective, it's not good to invest in things you are emotionally tied up in - it makes it difficult to make rational investment decisions.

Objectively, there are many other ways to invest money in the world, and buying a house doesn't magically make living arrangements easier than renting does..... in fact, it generally makes things more complicated, not easier. This is true even if you aren't borrowing money and are buying the place outright. You have to worry about insurance, upkeep, and you can't just walk away. Add the burden of the loan to that... it's something to think about.

Would you be better off to keep saving up money and investing and waiting a few more years and then buying something outright? Keep the freedom of renting rather than buying?
Would the gain in savings, in the long run, beat out the price of renting for that period? You'd have more cash available for more investments and more opportunities - and less responsibilities and expenses when it comes to the actual house itself.
posted by TravellingDen at 1:16 PM on February 13, 2010

We made a 20% down payment to avoid mortgage insurance, which is compulsory here in Canada for anyone making a down payment less than that. Not sure if this is quite the same in the U.S., but it seems to be. Might be something else to consider.
posted by Go Banana at 2:03 PM on February 13, 2010 [2 favorites]

It's my understanding that as of right now, in the US, mortgage insurance is tax deductible, but it does cost a lot of money. (We paid $2500 in mortgage insurance on a 110K loan we took out in May)
posted by drezdn at 3:55 PM on February 13, 2010

There are two aspects to your money allocation - one is the strict adding numbers budget: how much do we have, how much do we need to spend on (list), so we have (amount) left over for a down payment. The other is the question of timing. If you put money into a downpayment now, that reduces your mortgage payment and increases your savings rate, allowing you to build your emergency fund faster. If you refuse to let your emergency buffer drop below $N but you are predicting a monthly savings rate of $n/mo, then you'll have $N+12n in a year. Do you want the $N+12n, or do you just want $N as your buffer? You could look at it as "we'd like to have a $N emergency fund this time next year, so we can afford to put all but $(N-12n) into the downpayment", and build the fund back up over the year.

You know how much money you want in your emergency fund in general but maybe that's not the same as the minimum amount you're willing to have in it right now. For example, we bought our house, with planned expenses around closing and painting and re-flooring and moving that reduced our emergency fund from our previous $10k to about $1k. That only lasted a month, until we got our $8k tax incentive; then we continued to sock money away (what had been going to the down payment fund was re-filling the emergency fund) and we're now at $12k emergency and $5k house-repair savings.

Basically, you are your own insurance underwriter. What is your emergency fund (and other savings) insuring against? (medical expenses? loss of income? travel for sick parents? unemployment? car repairs?) What odds do you give yourself that everything happens at once? What are the odds you'd need to cover, say, two problems at once? What's your backup plan (credit cards, helpful parents, second job)? Figure out what you're comfortable with, both in short ($N-12n), medium ($N+12n) and long ($N+12n*years) terms.

There's also the savings-accumulating-interest question. Clearly considering not just money capital and costs now, but money income and expenses over time, is important for this kind of question, but complicated enough that there's no way anyone without intimate knowledge of your finances can thoroughly address it.
posted by aimedwander at 9:17 PM on February 13, 2010

I am not a mortgage broker or loan officer at a bank. But I have previously worked on a software project where we needed to model the mortgage industry, so I've learned a bunch about this. There are a couple reasons to pay 20% down, which you'll need to weigh against the reduced risk of holding back some money in savings.

The first is PMI. You'll pay private mortgage insurance until you've paid off 20% of your house. The cost of private mortgage insurance varies depending on a few factors, but there is a good calculator here. If, for example, you were to purchase a $350,000 and only put $50,000 down (14%), and you got a 30 year fixed mortgage at 5% interest rate, PMI would add $155/mo. to your mortgage payment.

The other reason to pay 20% is that having put that much down can help keep your interest rate lower. The math on this is very fuzzy because it typically involves three parties - you, your mortgage broker, and the lender. But the basic idea is pretty simple - the percentage of the loan you put down and your credit score are combined to determine if you pay more. If your credit score is above 720, you're unlikely to be charged more even though you put less than 20% down - you're considered less risky. If your credit score is under 720, you could pay higher rates. I'm looking at today's rate sheet from a very big lender. Once again, let's assume a $300,000 mortgage on a $350,000 house (e.g. $50K down). If you had a credit score of 700, and only put 85% down, you would likely end up paying an extra 0.125% (an eight of a point) more on your interest rate. So that 5% interest rate would go to 5.125%. Which is about $23/month. But what if your credit score isn't so good? At 650 credit score. your interest rates will be close to 5.375%. Or closer to $80/month more. Unlike PMI, the interest rate and monthly payment amount does not go down once you hit 20% equity. Over 30 years, an $80 increase in monthly payments is $28,800.

There are so many factors that go into this that it's impossible to say exactly what your changes in cost will be. At least, not without your complete financial history ;-) But your mortgage broker can easily tell you the score - just ask her to run a few scenarios for you - how much your mortgage would cost at various down payment amounts. They'll be able to tell you very quickly how much your monthly payments and total mortgage cost will change.
posted by centerweight at 11:47 AM on February 14, 2010 [1 favorite]

Seconding the people suggesting to keep a buffer.

But as far as mention mortgage rates are low. Mortgage rates aren't going anywhere. People have been "getting in while they're low" for 3 years now, except for a brief hiccup.
posted by rr at 12:42 PM on February 14, 2010

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