Scott's Corner: Down Payment Break Down - Geeking Out About the Numbers

This is one of the top questions we get asked when it comes to home purchases, and also an important part of personal finances that is often overlooked. Clients don't always spend enough time considering their options, or even know that they have options available. We pride ourselves on taking the time to go over all options and do a deep dive into what is most beneficial, lucrative, and necessary for our client's wants and needs. Purchasing a home is typically one of the biggest financial decisions consumers make, so why not take the time?

So how much should go toward the down payment?

The "right" amount will be based off a few things.

1. What is required - Some loan programs allow for 0 or 3-3.5% down, while others require 5, 10, 20 or 25% down. 
2. Qualifying - if the only way to adjust debt to income ratio is by paying off debt, or lowering the loan amount. We will determine the minimum down payment allowed for the borrower to obtain financing at a certain purchase price
3. What works for the budget - Larger down payment means a lower monthly payment. Evaluating what is most important, a lower monthly payment or keeping money in the bank is integral in figuring the appropriate amount to put into the transaction.
4. Credit score - This is a key factor in determining mortgage insurance on most loans with less than 20%, so the better the credit score, the lower the PMI. This is huge in determining if we want to throw more money toward the down payment vs. carrying a low PMI payment per month.

Let's break it down

In many cases, when borrowers have a home to sell first, or "nest egg" saved, their first instinct is to use all these funds towards the new home purchase - but here's a few things to consider:

1. Taxes - One thing that is missed when selling a home is what will the seller will actually put in their pocket. Taxes paid on a home sale is a major factor in calculating net proceeds. In general, the first 250k you receive (single) or 500k (married) in profit from a primary sale is tax free as long as you have lived in the home for two or more of the last five years, and anything over that will be taxed. (consulting a CPA is always advised)
2. Taxable events - If you are using funds available in a retirement account or other investment account, there will be some scenarios where the liquidation of these assets trigger a taxable event. In general, acquiring a new home with the minimum down payment is best. (again, consulting a CPA would be in a borrower's best interest, always)
3. How much you have available - A hypothetical 500k home purchase putting 20% down would require 100k, but if the borrower only has 105k in the bank, we're cutting it pretty close. We would likely advise a 10% -15% down payment, even though it may require a small amount of mortgage insurance, so as to better prepare the homebuyer from a budgetary sense to buy a new home.
4. Dropping that PMI - In most scenarios, if the buyer has 20% available with a reasonable cushion, they should utilize it toward the purchase. Mortgage insurance is essentially lighting money on fire to help insure the investor that if you stop making payments they will be made whole, so if the borrower can avoid it, in most cases they should.

Geeking out about the numbers 

Below is a breakdown of a borrower putting 400k down vs. 100k down on a purchase price of 500k. (please note that these are estimates and subject to change)