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Part Magic, Part Math:  The Large Down Payment!

In Part One of this special series of blog articles on down payments, we described the basic required down payment for various types of mortgage loans. In this week’s article, we will reflect on the advantages of making a large down payment on your mortgage. Perhaps we should entitle this section of the article “The Magic of Math,” because nothing else in the world of finance brings you as much return, dollar for dollar, as a larger-than-required down payment.

We turn to the “Mortgage Professor” for reference on this matter, and he explains, “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.” P

erhaps it would be best to put this in terms of numbers, to prove our point: Jason Snow is buying a house with a $190,000.00 loan. His deal is 4.5 percent, and 5 per cent down. If he put a down payment of 10 percent of the $190,000.00 instead of only five per cent, his rate of return on the $19,000.00 down payment could be as much as 7-8 percent, depending on how long he has the mortgage. That’s better than a money market account!

Meet The Magic Words: Loan Elimination

Where does the yield come from? Part of this mathematical return comes to Jason Snow from loan elimination–the elimination of $10,000 worth of mortgage loan on which he would be paying 4.25 percent. To put it simply, Jason saves the interest on the $10,000 he does not borrow. Another Magic Power: Reduce the Cost of Your Remaining Loan Another magic power of the larger-than-necessary down payment is that Jason not only wipes out the charge on the part of the loan he doesn’t make, but he also reduces the charge on the part of the loan that made.

The magic is in reducing the monthly mortgage insurance premiums we told you about in Part One, on what is now his $180,000.00 loan. Now Jason could make even bigger magic: He could make more of his monthly payment disappear if he paid 20 per cent down, because then–drum-roll, please–he would pay no monthly insurance payments on his mortgagee! (If you are interested in making similar calculations on their own transactions, can do them at this helpful site.)

What is the magic Secret?  Why Do Loan Costs Decline With Bigger Payments?

There are two big reasons that the cost of your loan will decline if you make a sizeable down payment: 1. The Magic of Risky Business: If the down payment is larger, the lender assumes less risk. If you default, it isn’t likely the unpaid debt will be bigger than the property value. 2. The Magic of a Good Reputation: You are, by virtue of saving up a nice-sized down payment, proving that you can follow a budget. Your large down payment makes a good impression, as does your good credit score.

The Magic Answer: Save for a Larger Down Payment!

Dave Ramsey stated, “You must gain control over your money or the lack of it will forever control you.” There is a magic in the self-discipline of saving for your home. There are two ways families tend look at such savings:
1. The Left-Over Savers: This type of saver only saves a residual amount after spending for all kinds of other possibilities.
2. The Priority Savers: This type is a serious saver, and he/she writes a check to the house savings fund account first, before making any other expenditures.

So the ultimate power of the larger down payment isn’t magic; it’s math, and it’s in your power.

T.T. Munger said, “The habit of saving is itself an education; it fosters every virtue, teaches self-denial, cultivates the sense of order, trains to forethought, and so broadens the mind.” In those ways, perhaps saving for the larger down payment is your personal magic.

Thank you for reading this week’s blog at Palm State Mortgage Company.  We don’t promise you magic, but we will find you the best possible rates and personal assistance with your home or business loan.