More than one person out of five finds coming up with a down payment the biggest challenge of the homebuying process, according to a 2013 HSH survey. Almost 23 percent of 786 respondents identified the down payment as their biggest hurdle, representing the second most common obstacle cited, behind home price at 23.5 percent. It’s not easy, but you can come up with the money you need to buy a house. We’ve highlighted some of the best strategies below.
Estimate Your Down Payment
In December 2013, the median price for existing homes was $198,000, according to the National Association of Realtors. Under traditional lending guidelines, this equates to a 20 percent down payment of $39,600. Government and private mortgage insurance enables some low down payment mortgage options—as low as 3 to 5 percent down, as this FCIC online guide explains.
Make sure you compare multiple lenders to help identify a payment plan within your means. To keep payments manageable, test your repayment capacity by projecting a monthly savings amount equivalent to the difference between your current rent and projected mortgage.
Create a Savings Plan
Use a tool such as TimeValue’s online calculator to determine how much you need to set aside per month to achieve a savings goal within a given time frame. For instance, to save up a $40,000 down payment for a $200,000 house within three years, starting with a $1,000 deposit into a 0.87 percent APY savings account, you would need to set aside $1,068.92 a month, or $246 weekly. For comparison, a 5 percent down payment of $10,000 on the same house would only require $246 per month.
Your plan should include a strategy for making your financial profile attractive to prospective lenders. Lenders consider factors such as the ratio of your down payment to your home’s value, your debt-to-income ratio and your credit rating. Lenders will view you as less of a loan risk if you improve your credit score. You can do this by making monthly payments on time and keeping your balance low, ideally within 10 to 20 percent of your limit.
If you have high debt balances, look for ways to pay them down or off, thereby increasing your credit score. If you receive periodic payments from an annuity or structured settlement, you may be able to raise a lump sum of cash now by selling your future payments to a company like J.G. Wentworth. You could put this money toward reducing your balance or raising your down payment.
A good way to start is setting up a dedicated savings account. NerdWallet’s John Gower reviews the best savings account rates available as of summer 2014.
Some homebuyers use retirement savings to raise their down payment, an option with various pros and cons. One strategy is reducing your retirement contribution temporarily, just long enough to raise your down payment. Some 401(k) plans have borrowing and hardship distribution provisions. First-time home buyers can withdraw $10,000 from an IRA without incurring a penalty, although if you have a traditional IRA, this is subject to tax.