A Guide to Making a Financially Sound Down Payment
Putting down a larger down payment—of at least 20 percent—feels as though it’s an obvious choice to many (because it reduces the monthly mortgage payment and eliminates the additional cost of mortgage insurance), however as the Seattle Times recently outlined, “putting too much down could leave you without enough cash for home maintenance — or anything else.” It is thus imperative to strike a balance in an amount that will leave you with a manageable monthly payment and a cushion to leave you financially prepared for unexpected expenses, whether they’re related to your new home or not.
The Down Payment Amount
It is important to work together with your mortgage advisor to examine different scenarios in terms of the down payment amount. Depending on the loan type, borrowers may put down a figure ranging from 3- to 20-percent, which impacts the mortgage payment and whether mortgage insurance is required. As the Times notes, “calculating how different down payments would affect a monthly mortgage payment is eye-opening” and it is imperative that you explore all options to discover what is ideal for your financial situation.
Be Careful When You Borrow
A Bank of the West study from 2018 indicated that nearly thirty percent of homeowners aged 21 to 34 withdrew funds from their retirement accounts to help fund their down payments. Though common, this is a decision that should be weighed with care. One of the riskier approaches is to borrow from your 401(k), because a job loss can require that you pay back the full amount prior to the next tax deadline, or else incur the 10% penalty for early withdrawal (before age 59.5) and it will fall under taxable income. Withdrawing from a Roth IRA is slightly more favorable, because there are no taxes or penalties for withdrawal, however you will still miss out on tax-free growth, which will shrink the value of your retirement savings.
Prepare for all Outcomes
Though it may seem ideal to put all of your savings into the down payment and closing costs, leave a cushion for yourself to lean on in case of emergency. Owning a home comes with an entirely new set of responsibilities. The Times recommends minimizing home-related surprises in the following ways: “review the home inspector’s report and negotiate repairs with the seller before purchasing.” It’s also important to “budget for immediate upgrades, such as fencing the yard for your dog.”
At the end of the day, it is important to consult with your real estate broker, mortgage advisor and financial planner when considering a home purchase and what kind of down payment is right for you.