Source: Flickr user Nan Palmero.
A survey by Trulia found that the No. 1 obstacle preventing renters from buying a home is the down payment requirement. In fact, 53% of potential buyers cited this reason, considering it an even greater obstacle than credit requirements, other debt obligations, or the rising prices of homes.
If you're among the large group of renters who would like to buy a home, the down payment doesn't have to stop you. There are several different mortgage options available to you with little or no down-payment requirement -- and some don't even require mortgage insurance.
FHA loans are great for low credit but can be expensive
The most widely known low down-payment mortgage program is the Federal Housing Administration, or FHA, loan. Not only do FHA loans have down-payment requirements as low as 3.5%, but the down payment can also come from the seller or a gift. In addition, there are some other reasons to consider an FHA loan.
- Because the loan is insured, credit requirements are low. You can obtain a 3.5% down loan with a score as low as 580, and a 10%-down loan with a score in the 500-579 range.
- FHA loans can be made for one- to four-unit properties. For example, you can use an FHA loan to purchase a duplex.
- FHA mortgage insurance annual premiums are comparable to the private market. For a 30-year loan with the minimum down payment, you'll pay 0.85% of the loan balance for mortgage insurance, and this will be added to your monthly payments.
However, there are some drawbacks to be aware of.
- The annual mortgage insurance isn't the only cost. You'll also pay 1.75% of the loan amount upfront, or $3,500 on a $200,000 mortgage. For this reason and the next one, FHA loans are usually the most expensive type of mortgage.
- Unlike with conventional loans, you can't drop FHA mortgage insurance once your loan has been paid down to 80% of your home's value. The only way to get rid of FHA mortgage insurance is to sell the home or refinance.
- The home must pass an FHA inspection before the loan can be approved.
Conventional mortgages with 3% down
Thanks to relatively new programs from Fannie Mae and Freddie Mac, it's possible to obtain conventional financing with as little as 3% down. (Note: Fannie and Freddie don't directly originate mortgages, nor does the FHA or VA. These loans are offered through banks and other mortgage lenders)
Fannie Mae's Home Ready program allows for 3% down payments with credit scores as low as 620 -- so it doesn't exactly require great credit but is more selective than FHA financing.
One unique feature of the Home Ready program is that it has a special provision designed for extended family situations. Lenders can consider income from non-borrower household members for qualification purposes, and it allows for non-occupant borrowers, such as a parent.
Freddie Mac's Home Possible Advantage program is similar, but there are a few minor differences. Credit requirements are slightly higher, with a 660 minimum credit score, but mortgage insurance costs are generally lower. This program can be used for purchases or refinancing. Unlike the Fannie Mae program, all borrowers must be occupants of the home.
Since these loans are conventional mortgages, the mortgage insurance can be dropped once an 80% loan-to-value ratio is achieved. Contrary to popular belief, these loans have no first-time-buyer requirement, but both programs require completion of a homebuyer education course and have income limits you may have to meet, depending on where you live.
VA loans and USDA loans: good programs, but not everyone qualifies
Everyone I know who has used a VA mortgage has nothing but good things to say about it, and it's not hard to see why. VA loans can be made with no down payment whatsoever, and since they are guaranteed by the Department of Veterans Affairs, there is no mortgage insurance requirement.
However, only certain people are eligible. VA loans are made only to active-duty or retired military personnel who meet certain requirements. A full list is available on the VA's website, but in general the requirement is 90 days of consecutive service during wartime or 181 during peacetime. Reserve and National Guard members can also qualify after six years of service.
USDA loans are designed to help low- to middle-income homebuyers in areas that are designated as "rural." Loans can be made with no down payment, but there is a "guarantee fee" that's paid both upfront and annually, similar to FHA mortgage insurance. Prospective borrowers must qualify with the location of the property, as well as maximum income requirements, and the USDA's website can give you the specifics for your area.
Check with your local banks
These are all solid programs, but it's also worth mentioning that many individual banks have their own low-down-payment loan programs -- and they may be even better.
For example, Regions Financial offers its Affordable 97 and 100 loan programs, which offer 97% and 100% financing, respectively, and have no mortgage insurance requirement. There are some trade-offs, however. You'll need excellent credit to qualify, and you can expect to pay a higher-than-average interest rate to compensate the bank for taking the risk of issuing a 0%-down loan. Even so, this is the only 0%-down mortgage I know of without veterans or rural restrictions.
There may be others, especially at your local and regional banks. A mortgage is a huge decision, so it's certainly worth your time to call around and see what's out there.
The Foolish bottom line
My main point here is that there are several programs that don't have a high down-payment requirement, and in some cases they require no money down at all. So while there are certainly some valid obstacles to homeownership, such as high student debt, credit requirements, and others, coming up with a down payment shouldn't be as much of a concern as it is.
