The Surprising Reason Ramit Sethi Believes You Aren't Ready to Buy a House if You Have a Small Down Payment
- A 20% down payment is ideal for home buyers because you can avoid private mortgage insurance.
- Many people make down payments much smaller than 20%.
- Ramit Sethi of I Will Teach You to Be Rich explained why you need a down payment -- and it's not for the reason you think.
If you have a small down payment, you should read Sethi's advice before moving forward with homeownership.
When you get a mortgage to buy a home, you typically still must make a down payment. And, ideally, that down payment will equal around 20% of the value of the home.
If you make a 20% down payment, you can qualify for a better mortgage rate in most cases and may have a broader choice of lenders. Your lender also will not require you to pay for something called private mortgage insurance (PMI), which protects the lender against losses in case of foreclosure when you make a small down payment.
Many financial experts suggest putting 20% down primarily in order to avoid PMI. But Ramit Sethi, a finance expert and author of I Will Teach You to Be Rich, has a different reason for advising that a larger down payment is so important.
Here's the real reason to put 20% down, according to Sethi
Sethi unequivocally stated on his blog that a 20% down payment is the minimum you should put down when purchasing a property. "If you haven’t saved a 20% down payment, you’re not ready to buy a house," he said.
He went on to explain that avoiding the added cost of PMI is not the only reason, or even the primary reason, to save so much. "The real reason to save 20% before buying is counterintuitive," he explained. "Building the habit of saving is critical before you buy and have unexpected housing expenses such as a broken water heater, roof, or unexpected taxes."
In other words, PMI avoidance is just a secondary benefit of a large down payment. In fact, Sethi said that while you should have the money, this does not necessarily always mean you need to actually put so much cash out before purchasing a home. "I don’t mean that you have to put 20% down," Sethi said. "In some cases, such as low interest rates, many people intentionally choose to put a small amount down. But you should be able to."
Whether you actually put down 20% is immaterial, but what really matters is the fact you were able to live below your means and amass so much money -- because if you can't do that, you could find yourself in trouble later.
"Saving is a habit, which is better practiced before your mortgage is at risk," Ramit Sethi said.
Should you listen to Sethi about a 20% down payment?
Sethi's advice on the importance of establishing good savings habits before becoming a homeowner is absolutely crucial for everyone to listen to.
When you commit to paying a mortgage, you want to be sure you can cover the costs for the life of the loan. This means you should have emergency savings so you can pay the bill if you lose your job or your income drops for another reason, such as health or family issues. And you'll also need to save for routine maintenance costs and repairs as a homeowner.
If you can save up a 20% down payment, you should also be more easily able to save for these other things and be financially prepared for the realities of owning your own place. You'll have the habit of saving down pat and can keep setting aside money over time to protect your interest in your house and ensure you're ready to pay for whatever you need to maintain the property.
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