Ok, what’s the point of a down payment?
Let’s say I want to borrow $200K to buy a house, and the down payment is 10%, or $20K. Now, if I had $20K, then wouldn’t I just want a loan for $180K?
Is the down payment some sort of proof of my seriousness?
Please – no speculation on this one. Only answer if you’re a banker, or if you otherwise know.
Thanks,
-Spitzoli
If you don’t put down 20%, then you have to pay PMI which can cost some money. PMI is mortgage insurance that insurers the borrowers. You pay for it but get no benefit. You can get out of PMI by taking out a second mortgage but it is at a higher interest and you have two payments.
Another reason to put down 20% is that you may be at the upper limit of your affordability. A mortgage company caps what it will loan you, so savings brings up the amount of house you can afford.
Another might be to lower your payments. Less money=lower monthly payment.
It may be harder for someone to ‘take’ equity in your house, like if you get involved mith huge medical bills or get sued. Don’t have specifics on this.
There are probably psychological reasons why some people might want to put 20% down.
Blink
I don’t understand the question well enough to help. If you buy a $200k house with a 10% down payment, you do take out a loan for $180k, and chip in $20k of your own personal money.
The reason the bank won’t lend you the whole thing is because it reduces their risk if they make you pay part of it. You probably won’t neglect a house and cause it to lose value if you own 10% of it. Also, if housing prices go down (heresy!) the bank is less likely to end up in a situation where you can just walk away from the deal leaving them with a house worth less than they loaned you. Your house is collateral, but the bank doesn’t really want your house - they just want you scared enough of losing it that you make your mortgage payments.
If you put $20,000 down on a $200,000 house you only get a loan for $180,000 (not $200,000 as you suggest).
The downpayment serves the bank in two ways. It tells them you are serious and more importantly (to them) it allows them to get something back if you immediately default on your loan. Without the amount of the downpayment the bank would certainly lose money trying to resell your house and collect on its loan.
Given that you have $20,000 of your own money at stake it tends to reassure the bank that you will actually try to service your debt to them and not just bug out if it becomes inconvenient.
May be a basic misconception here. The down payment doesn’t go to the bank, it goes to the seller. The bank simply indicates what percentage of the total value of the home they are willing to lend you. Making a down payment makes no difference whatsoever in how much the bank would lose in reselling your house in foreclosure.
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*Originally posted by jseigle *
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Hmmm, may have spoken too soon. Loaning less than the full amount does limit the bank’s exposure, how much they’ve got out there to lose. So it does make a difference, but nontheless the original poster may not understand how a down payment really works.
Look at it this way…
house: 200,000
your down payment: 20,000
--------
loan amount: 180,000
The bank has $180,000 in a $200,000 house. You default immediately - never make a mortgage payment. The bank now forcloses and owns the house, which it can sell, theoretically for $200,000, recouping its 180,000 plus enough room to cover its costs.
-mdf
The way the OP is worded I believe he just does not understand the process and is under some misconceptions.
The down payment is the part of the purchase price the buyer pays out of his own pocket and the rest is what he borrows from the bank.
I am in the process of selling my house these days and i have a contract for $160K. The day we close, I get $160K and walk away. I don’t care if the buyer borrowed more or less.
The lender has an interest in not lending the full purchase price and having the buyer put some money out of their own pocket. The main reason is that if the buyer buys the house for $160K and borrows the entire amount, if the buyer then defaults, the bank would lose money as the house would possibly not bring the full $160 at a foreclosure auction and the foreclosure costs money.
In fact, I am surprised banks will lend as much as 98% of the nominal purchase price. take into account the gimmick of “closing help” and the bank is, in fact, lending the full purchase price. When people complain they can’t get loans, it makes me wonder. It seems to me the banks are overlending and a downturn in the economy could leave them with a chain of defaults. (Does anyone remember the S&L debacle?)
Remembering that in the old days down payments were literally called “earnest money.”
It shows that you’re serious and have the wherewithal to come up with that kind of scratch (and presumably) to keep up with the mortgage payments.
Also, as noted, the less the bank has to loan, the better the odds they can make their money back if they have to foreclose.
The bank loaned me the appraised value of my house, which I bought for less than the appraised value. Tack on the 2% VA funding-fee, and I still got a check at closing!
You see, a VA (Veterans Administration) loan is backed by Uncle Sam. So, banks don’t care about losing anything on the house if you don’t have a down payment. Unfortunately for many people, the VA Guarantee is only good for veterans.
On the other hand, I think low-income people can use HUD or something to get 100% loans, but they may not be as easy to get.
As for “earnest money,” isn’t that what you give to the seller of a house when you make an offer, to show you’re serious?
Kunilou said:
Is this true? Did there used to no difference between down payment and earnest money?
These days, earnest money is not the same thing as a down payment, but the term is still in use to describe money paid to the seller to ensure that the deal is done in good faith. If you bail on the contract after a certain point in the process, the seller keeps your cash.
In California, the law is that with respect to “purchase money” financing (i.e., dollars borrowed to purchase a home), the bank’s sole remedy for a default is to take back the house. They can’t sue the borrower to make up any difference in the amount between the worth of the house and the amount of the loan. Banks therefore need some cushion to protect from a declining market. In other jurisdictions (NY in partiuclar) there is no such rule - the bank can take back the house and sue the borrower. You can get loans with a smaller downpayment, or, if your credit is good enough, none at all. But you are personally on the hook. The California protection stems from the fact that foreclosure sales generally result in a sale below (sometimes well below) market value, which can really screw a borrower.
Also, in reply to Necros, you’re right that the deposit and the downpayment are separate items. The deposit is held by the escrow company, and is often released to the seller if the buyer defaults on the purchase contract. Because the deposit is generally also released to the seller at the closing, along with any additinonal cash provided by the buyer and the loan funds provided by the bank, it can also form a part of the downpayment.
Earnest money and downpayment are totally different things. “Earnest money” is the deposit put is escrow when making a purchase offer. Totally unrelated to down payment.