Down Payment: How Down Payments Work for Homes

A down payment is the up-front deposit of a certain amount that equals a percentage of a home’s purchase price. Homeowners make down payments without home loans; in other words, repeat or first-time homebuyers put down a deposit on a home, the amount for which will determine their monthly mortgage payments or how much they will owe as borrowers for their new home.

A sizable down payment amount means a smaller loan amount from conventional mortgages. Loan options, financial situations, and closing costs all vary, affecting how much one puts forward as a down payment. Generally, six percent is an average down payment for first-time buyers, though values range—some sellers will accept less, and some will expect more. Either way, a down payment is essential for mortgagers to become homeowners.

The down payment process for first-time or repeat buyers is similar: When a house goes on the market, potential buyers make an offer and secure home equity with a down payment. Higher interest rates on the mortgage might mean buyers can offer a low down payment to fixate their debt-to-income ratio; any money homeowners save on their down payment can go toward higher-payment loans over time. In times of better interest rates—which is to say, lower interest rates for buyers—buyers may feel comfortable putting more money toward their down payment to lower their mortgage loans.

If a house costs $300,000 and the sale requires a six percent down payment, hopeful buyers must pay $18,000 as a deposit on the home to guarantee steps toward home ownership. A conventional loan would follow, and the homeowners pay the additional $282,000 via mortgage loan programs. Interest rates and types of loans dictate the payment amounts over the ensuing mortgage period. If the owners stay in the house over time and their income or credit score changes, they will likely have the option to refinance or restructure how they pay for a mortgage.

Buying a house without a down payment is possible if the buyer is a service member or agricultural worker. VA loans exist for service members, and USDA loans are available for farmers and agricultural workers. No down payment is necessary for either situation; otherwise, sellers will expect some form of down payment at the ready to secure the home’s purchase. Borrowers must pay some form of mortgage insurance for these government-backed loans.

Down payment options vary depending on the type of mortgage. The more you pay up front, the quicker the life of the loan can be. Consider the following examples:

• Ten percent down payment: If a house costs $500,000, a ten percent down payment is $50,000. That means you owe $450,000 on the home over the mortgage period, and mortgage rates stay constant over time. While $450,000 is what you owe on the house, that value can be higher depending on the interest rates you owe to the bank for paying for the rest of the home while occupying it.
• Twenty percent down payment: To secure a $500,000 house with a twenty percent down payment, potential owners need to pay $100,000 up front. The house owners then pay the remaining $400,000 over time.

The minimum down payment depends on the mortgage lender's policies, the price of the house, and the kind of property. Some loans may not even require a down payment; others may ask for more than ten percent of the sales price. A six percent down payment is typical for first-time home buyers, though it can go lower to three percent through Fannie Mae and Freddie Mac, both government-sponsored enterprises that buy loans from lenders.

Down payments come with a few benefits and drawbacks. By making a down payment on a home, you can:

1. 1. Decrease interest charges: Not only do down payments decrease what you owe month to month, but it also reduces the value of other costs over time. A higher mortgage means more monthly interest payments, which add up over time.
2. 2. Lose income: A disadvantage of putting a significant amount of money into a down payment is the lost opportunity of investing that money in the stock market. Investing the funds can yield more capital.
3. 3. Lower monthly payments: Putting money down up front means you will owe less monthly as you repay the mortgage.
4. 4. Skip PMI: If you can make a twenty percent or higher down payment, you can skip private mortgage insurance, meaning you will pay less month after month.
5. 5. Stretch savings: One drawback is that if you spend all your money on a down payment, you might have little left for the rest of your living expenses or mortgage payments.

There are a few ways to save for a down payment. Consider the following methods:

• Invest wisely. The stock market ebbs and flows, but it can be a way to make money more quickly in times of economic boon.
• Put income money away. Act wisely with your money. If you have a salary, put a certain percentage of earnings away or in the market each week or month to make your money work for you.
• Set financial boundaries. Saving for a down payment takes discipline. Change your spending habits to pave the way toward having a down payment ready for when the right house comes along.

All you need is a MasterClass Annual Membership and our exclusive video lessons from prolific entrepreneur Robert Reffkin, the founder and CEO of the real estate technology company Compass. With Robert’s help, you’ll learn all about the intricacies of buying a home, from securing a mortgage to hiring an agent to tips for putting your own place on the market.