Real estate has its fair share of terms, and some are quite hard to understand. From “Pre-approval” to “Listing agent,” it is endless. One of such common words you will hear among many homebuyers is down payment. What is down payment? How does it work? Which down payment strategy should you choose? This and more you will soon find out.

What is a down payment?

 In real estate, a down payment is an amount a buyer has saved to aid the purchase of a home. Generally, this amount is a percentage of the total price of purchasing the home.

How does down payment work?

 A typical down payment amount is 20%, which means the buyer will have to pay 20% of the total buying price upfront. Usually, the amount is paid in during the closing process in the form of a cashiers check. Many people do not have the sort of money to pay cash for a house; therefore, they must acquire a mortgage loan to pay for the house. Many lenders often request for a down payment from the soon-to-be-homeowner and down payment. Sometimes these down payment may be 20%, 10%, 5 % or even 3% of the total amount of the home.

To give you a better understanding, take a moment to imagine you bought a home for $100,000:

  • A 5% down payment means you will pay the seller $5000 and you borrow $95,000
  • With a 3% down payment, you would pay the seller $3000, and you would borrow $97,000.

Your down payment can be funded by:

  • Your savings
  • The money you will receive after selling a house
  • Grants and gifts from loved ones, employers, and Nonprofit Organization.

Down payment strategies

 To many, saving for 20% down payment before buying a home is the best as it shows that the buyer has the financial discipline to save for the long term. A 20% down payment will help you get reasonable rates from lenders, but there are some other benefits you can enjoy if you put down a small down payment as low as 3 to 5%.

The benefit of a smaller down payment is that the national home appreciation is 5%. This appreciation is not attached to your home payment, so if a buyer put down 20 or 3%, the increase in equity does not change. If you see your home as an investment, putting down 3% may result in a higher return of investment and at the same time leaving a significant amount savings free for home improvements, repairs, and other investment opportunities.

The disadvantage of a smaller down payment is that the buyer will have to pay Private Mortgage insurance for years, and the duration depends on how low your down payment is. In other words, the smaller the down payment, the more the buyer will pay. Furthermore, you will get a lesser loan amount that those with 20% down payment, which will remove some homes from your radar.

Discuss with your lender to know what strategy is best for you. Don’t have a lender? Ask our team to connect you with a top mortgage and lending professional on the Emerald Coast.