At Palm State Mortgage Company, we have discovered that sometimes first time home buyers confuse a down payment on a house with the payment of earnest money.
This week, Palm State Mortgage Company will differentiate these two terms. We will also demystify the entire concept of down payments so you can understand their purpose and value.
What is an EMD?
The earnest money deposit, or EMD, is a special amount of money given by a home buyer, “to secure a purchase contract.” Interestingly, this amount is largely influenced by local traditions, and it can vary with the size of the purchase. Customary amounts might be one to five hundred dollars. Bigger real estate deals might require a larger amount, “such as $1,000 to $10,000.”
When you follow-up on the contract you secured with your EMD, it often becomes a piece of your down payment. In contrast, if you default on the contract you secured, it becomes at risk, and the seller can take it as “liquidated damages.” Keep in mind that the purpose of your earnest money is to demonstrate your serious intention to buy the home in question.
A Little Down Payment Definition
To put it simply, your down payment will be a percentage of the sales price that you will pay up front. You should also realize that the balance of the purchase price after a down payment is deducted equates to the dollar amount of your mortgage. Discover more about down payments at this knowledgeable online resource.
A Few Types of Minimum Down Payments
Perhaps the reason that people are confused by down payments is because there are so many types of minimum down payments. Guidelines vary, Depending on the type of loan you are getting and other factors in your specific deal. Let’s look briefly and in general at a few examples of minimum down payments:
1. Minimum Down Payment for a VA Loan
Undoubtedly, one of the best deals you’ll ever make, a VA loan gives vets competitive rates and great terms. VA Loans require no down payments.
2. Minimum Down Payment for a FHA Loan
The minimum down payment requirement for a FHA loan is 3.5%. For a $100,000 sales price, the minimum down payment is $3,500. Such a small down payment has a price attached– “there is also an MI premium that can be folded into the loan.” Be aware: that mortgage insurance payment will enlarge your monthly debt.
3. Minimum Down Payment for a Conventional Loan
With a conventional loan, you are typically dealing with a fixed-rate mortgage. In the recent past, down payment plans were very flexible, maybe too much so.
You do not want to buy more house than you can afford to keep. This explains the recent trend to increase the down payment. With a nice FICO score, you can often find a loan that allows you to pay a mere 5% for your down payment.
All three of the above types of loans involve PMI. Here is how it works: P.M.I. protects your lenders against loss in case you default on the loan. “Most lenders require private mortgage insurance (PMI) for loans with loan-to-value (LTV) percentages in excess of 80%.” This means you put down less than 20% of the home’s value upon purchase. This is a type of insurance that allows borrowers to make a smaller down payment of 3% to 19.99%, instead of 20%,
Why is 20 % a magic number? If you can actually manage to save up 20% of the cost of your dream house, for your down payment, then you will pay no PMI!
In today’s economy, this kind of saving can be very difficult, which is why so many people take a loan that features a down payment of 3.5%-5% of the loan amount, and pay the PMI monthly. You can read more about PMI and down payments at this reputable source.
Jack Guttentag, known as “The Mortgage Professor,” has long believed in the traditional idea that making larger down payment, as much as 20%, will bring you more benefits than making a minimum down payment. Of course, this is meaningful only if you can afford it along with the other expenses associated with buying a new home.
In his perception, your down payment is an investment.
He states,”Many consumers put down as little as possible despite having the capacity to put down more because they view the down payment as lost money. But that is a mistake.”
He adds,”The down payment is an investment that yields a return that is far above anything else available to consumers, and the return is 100 percent risk-free.”
To find out more about this idea, and about the other fascinating benefits of making a larger than minimum down payment, we will continue our Demystifying Down Payments report in Palm State Mortgage Company’s next blog, Part II.
Thank you for reading the Palm State Mortgage Company Blog this week, and welcome to Fall, even though Palm State believes we have plenty of summery sunshine left in Orlando, Florida, 2014!
