Most people, especially first-time home buyers, have questions about mortgages and the terms around them! To help prevent confusion, here’s some explanations around PMI and down payments.
What’s a down payment, and how do they work?
A down payment on a home is the initial sum you pay towards the home you’re buying, that’s calculated as a percentage of the total cost of the property. The down payment goes to the seller of the home, and when you take out a mortgage, the lender pays the rest of the cost of the property—which you pay back to the lender over many years, with interest. The reason you’re required to pay a down payment for most traditional mortgages and loans? If you fail to pay your mortgage and your home is foreclosed on, you lose your down payment—essentially, it’s incentive to make sure you make the monthly payments.
What’s the recommended down payment amount?
You’ll typically hear that a solid down payment is 20 percent of the purchase price—that’s the most commonly recommended amount, which means you’d end up paying the other 80 percent of the loan through the mortgage, plus interest. Not all loans require a 20-percent down payment, though. But paying lower than 20 percent generally requires you to pay mortgage insurance (adding to your monthly payment), or pay more in other roundabout ways. The absolute minimum down payment you can make is usually 3 percent.
What is mortgage insurance, and will you need it?
Mortgage insurance is an additional cost that borrowers pay along with their monthly payments (or during closing), which lowers the risk to the lender and allows borrowers to qualify for loans even if they typically wouldn’t. You will likely need mortgage insurance if you pay less than 20 percent down, but it also depends on the type of loan you take out.
