Dated: June 25 2015

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What is a down payment and why is it important?

A down payment is the amount of money you spend upfront to purchase a home and is typically combined with a mortgage to fulfill the total purchase price of a home. In addition to your down payment amount, your credit score, credit history, total debt and annual income will influence how much house you can qualify for. A great tool to see how much you can afford based upon your down payment and annual income is Zillow's affordability calculator.

Down payments: How much do I have to save?

Typically you will need to save 5 to 20 percent of the sale price in cash in order to qualify for a conventional loan. If you put down less than 20 percent, you will have to pay mortgage insurance (either private or public depending on the type of loan). See more information about mortgage insurance. Check out this down payment resource center to see if you are eligible for down payment assistance.

Popular low down payment financing options

Saving for a 20 percent down payment might be too difficult or take too many years for many first-time home buyers or borrowers with lower household incomes. Popular alternative programs allow for a 0 to 3.5 percent down payment.

The most common programs for lower down payment mortgages come from the Federal Housing Administration (FHA). Most FHA loans require a minimum 3.5 percent down payment.

In a rare number of special circumstances, you may be able to qualify for a mortgage with no down payment through the Veterans Affairs (VA loan) or the Department of Agriculture (USDA loan) programs. Both programs have eligibility restrictions that are outlined on their websites.

In addition to FHA and VA, there are state and local down payment assistance programs that help people with low down payments.

Down payment calculator

Use this down payment calculator to see if there are down payment assistance or home buyer programs that you’d be eligible for.

Down payment assistance and other home buyer programs

Saving for a down payment remains the No. 1 obstacle to homeownership. However, what many people don’t know is that there are more than 1,000 down payment assistance programs available across the U.S. that may help you buy a home sooner than you think. There are also other types of homeownership incentives you should know about whether you need help with the down payment or not. These programs can be as unique as the home buyers and communities they serve ranging from grants for closing cost assistance to rehab loans, below market-rate first mortgages, mortgage credit certificates and more.

Three most common types of programs

Down payment assistance program: They are normally soft second or third mortgages or grants, providing benefits such as zero percent interest rates and deferred payments. The assistance amounts will range from a few thousand to tens of thousands of dollars and can be used towards closing cost assistance, prepaids, and/or principal reductions. Most home buyer assistance programs are provided through municipal or quasi-government agencies or non-profits. Some are sponsored by employers and you may find programs that offer additional funds for rehab work on a home.

Below-market first mortgages: Many larger housing finance agencies, particularly at the state level, offer first mortgages to accompany their down payment assistance program(s). These first mortgages typically offer a below market interest rate and may even have reduced closing costs or reduced fees. They are often funded by state housing finance agencies and may offer rates below what the normal market can provide, helping to lower buying costs and monthly payments.

The USDA also has two first mortgage programs for each county, where applicable: the Rural Direct Loan and the Rural Guaranteed Loan. Both loans are primarily used to help low-income individuals or households purchase homes in rural areas. Funds can be used to acquire, build (including purchase and site preparation to provide water and sewage), repair, renovate or relocate a home. These programs allow financing of up to, and sometimes more than, 100 percent of the selling price with no mortgage insurance requirements.

Tax Credit or Mortgage Credit Certificate (MCC): A tax credit is designed to help first-time home buyers offset a portion of their mortgage interest on a new mortgage as a way to help qualify for a loan. Because it is a tax credit and not a tax deduction, mortgage lenders will often use the estimated amount of the credit on a monthly basis as additional income to help you qualify for the loan. The amount of mortgage credit allowed varies depending on the state or local government issuing the certificates, but the IRS cap is $2,000 per year.

MCC example

If a home buyer were to receive an MCC that offers a 30 percent credit on a $200,000 loan for 30 years with a rate of 6 percent, the allowable tax credit would be figured as follows (all numbers rounded):

Mortgage interest paid (1st year): $11,933 x MCC credit: 30 percent = Total credit: $3,579

Because the total credit in this example exceeds the IRS limit of $2,000, the home buyer would report a $2,000 credit on their tax return. The buyer may continue to receive a tax credit for as long as they live in the home and retain the original mortgage.

Qualifications and requirements for these programs

While qualifications and requirements vary, many programs are for first-time home buyers -- defined as someone who has not owned a home in three or more years. Eligibility is most commonly based on the buyer’s income and sales price limits which vary by city or county.

Assistance programs are for home buyers, not investors. The providers of these programs will require that the home is used as a primary residence only.

Home buyers purchasing a home in areas targeted for revitalization may receive special benefits such as higher assistance amounts, more lenient income requirements, and if there is a first-time home buyer requirement, it may be waived. There are often additional benefits, or even entirely separate programs, for educators, protectors, health care workers, veterans of the armed forces, and households with disabled members.

Most programs will require a little money down from the home buyer, as well as home buyer education, especially for first-time home buyers.

Benefits of using a home buyer program

Helps home buyers purchase a home sooner: It immediately builds your buying power and can help you take action on a purchase more quickly. Down payment assistance programs also gives home buyers an important cash cushion so savings and reserve funds are available for home maintenance and other unexpected emergencies.

Makes the purchase as affordable as possible: Home buyers of all income levels have seen the housing crisis up close and want to ensure their purchase is an affordable and sustainable one. Home buyer programs can help more families build some equity when they purchase and take advantage of record low interest rates.

Helps offset increases in FHA premiums: Over the years, FHA has been the primary place for many first-time home buyers to get a low-cost, low down payment loan. In fact, FHA sustained housing markets nationwide during the economic and housing downturn. However, FHA recently took steps to stabilize the fund, including increases to premiums, increased down payments for some borrowers, and greater risk controls. Many don’t know that FHA loans can be combined with a down payment assistance program, helping offset increases in the down payment requirement and premiums.

Makes it possible for working families to live close to their work: All communities need public service employees. These are the police officers, firefighters and teachers who, especially in high-cost areas, often live far from the community where they work. Important note: You don’t need to be a teacher, nurse, police officer or fireman as long as you work for one of these institutions. These programs are designed to help keep these vital professionals in the community and reduce commuting costs.

Provides valuable homeownership education: In order to qualify for an assistance program, most require home buyers to complete homeownership education. It typically covers the logistics and steps of buying a home as well as financing basics, homeownership responsibilities and contract obligations. This valuable, upfront education helps prepare buyers for the home buying process and sets you up for long-term homeownership success.

Ask your agent and lender about programs in your market or check out this Down Payment Resource Center webpage. Do your homework on assistance programs before you begin shopping for homes. It will help you understand all your mortgage options and what you may be able to afford.

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Terry Ivie

Texas Real Estate Consumer Protection Notice

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