The resurgence of low-down-payment financing may seem dangerous, but… (MOLLY RILEY/REUTERS )
Mortgage down payments as low as 3 percent — and even 100 percent loans — are returning. That may be good news for buyers who haven’t accumulated a lot of savings.
But there are some trade-offs: Mortgage payments will be higher because more money is being borrowed and because private mortgage insurance is required for down payments that are less than 20 percent. With that in mind, buyers may want to consider renting for a longer time and saving more for a larger down payment to make sure they can truly afford a home.
If after careful consideration buyers settle on a low down payment, it’s best to go in with eyes wide open. It’s important to know the details of the loan program and the ramifications they may have on finances. The interest rate on a loan with 5 percent down will typically be slightly higher (one-eighth to one-quarter of a percent) than one with 10 percent or 20 percent down because the loan-to-value ratio is higher.
Before the housing bubble burst, many lenders offered borrowers 100 percent financing. Some lenders even allowed buyers to finance 105 percent of the home value.
Those zero down and low-down-payment loans were part of the problem that led to the housing crisis, because homeowners who never made a down payment found themselves quickly underwater when home prices dropped and were more likely to face foreclosure because they couldn’t refinance without any home equity.
Conventional lenders quickly dropped risky loan products and the pendulum swung the other way to loans requiring a minimum down payment of 20 percent or, for borrowers with excellent credit, 10 percent. First-time buyers and repeat buyers who could not make a large down payment have been limited in recent years to loans insured by the Federal Housing Administration (FHA), which require both upfront and annual mortgage insurance premiums that increase monthly payments. Members of the military and veterans continuously have had access to zero-down-payment mortgages through the Department of Veterans Affairs loan program.
But now conventional lenders are bringing back mortgage loans with lower down payment requirements .
“Most conventional loans require a down payment of 5 percent, but some programs allow a down payment as low as 3 percent,” says Doug Benner, a loan officer with Embrace Home Loans in Rockville. “A few banks and credit unions have special 100 percent financing products, too, that they keep as portfolio loans.”
Portfolio loans are mortgages that financial institutions keep on their books rather than sell on the secondary market. Lenders can establish their own criteria and be more flexible than they are with loans that are being sold to Fannie Mae or Freddie Mac.
Traditional conventional loans that are sold to Fannie Mae or Freddie Mac require private mortgage insurance (PMI) for mortgages with a down payment of less than 20 percent, but borrowers have several options for paying PMI. They can pay it monthly until their loan-to-value ratio reaches 78 percent, or they can take advantage of other programs offered by many lenders, such as paying a one-time fee or having their lender pay PMI while they pay a slightly higher interest rate.
Safeguards for lenders, taxpayers
The resurgence of low-down-payment financing may seem dangerous on the surface, but Benner says the loans are different this time.
“When we saw these loans before the housing bubble burst, underwriting had gone out the window,” he said. “Now everyone has to undergo detailed underwriting and provide complete documentation about their employment history, their income, their assets and their ability to repay the loan. It used to take just a rubber stamp to get a mortgage approved, but now every aspect of every loan is scrutinized.”
At Navy Federal Credit Union, the 100 percent financing “Homeowner’s Choice” loan program has been offered continuously except for a hiatus in 2008 during the height of the recession, said Katie Miller, vice president of mortgage products for Navy Federal Credit Union in Vienna.
“The performance of these loans has been better than the performance of prime loan portfolios of other lenders,” she said. “We service all of these loans in-house so we can get ahead of any issues and work with our members to resolve them.”
The Homeowner’s Choice loan program is a 30-year fixed-rate loan reserved for owner-occupied homes. The program is geared to first-time buyers and to members of the military who have their VA loan eligibility tied up in another property, Miller said.
Richard Morris, vice president of mortgage pricing for Navy Federal , said the company carefully reviews applicants’ credit scores, debt-to-income ratios, job stability and use of credit. No specific minimum credit score is required because these loans are manually underwritten and member qualifications are reviewed on an individual basis.