While many aspects of the “American Dream” have changed and adapted since historian James Truslow Adams coined the phrase in 1931, homeownership has not. Given that many came to America to be free from landlords, it is not surprising the value of homeownership is deeply embedded within our culture. Yet, like many dreams, homeownership can be difficult to realize.
For most of us, homeownership would be impossible without a loan from a bank. Given the fact that the median salary in America is $56,516 and the average home costs (which varies greatly by state) $226,000—paying cash for a house is not feasible. However, when you take that same salary and consider that banks require 20% of the purchase price as a down payment just to get your foot in the door. It makes the dreams of homeownership that much dimmer. $45,000 dimmer to be exact. This is another figure that most individuals simply do not have readily available, and if we do, would exhaust our entire savings in one swoop.
While there are many perks to owning your own home, draining your finances, and placing your financial well-being at risk is not one of them. If you are one of the millions who dream of owning their own home, here is how you buy a house without putting 20% down.
Before you Begin
Buying a new home is exciting; however, being prepared before you approach a lender will not only provide you with clear expectations as to what to expect, but will assist you in asking the right questions and pursuing the correct loan that meets your needs.
Taking these initial steps will put you that much closer toward purchasing a home with zero money down!
- Know your credit score
- Obtain your credit report and address any derogatory remarks
- Understand your debt-income ratio (how much do I owe vs. how much I make?)
- Know your loan options
Taking this into consideration will help adjust your expectations moving forward and give you a solid idea of how much house you can afford.
Credit Scores
A credit score is a rating system that tells banks, lenders, landlords, and all other inquiries your level of creditworthiness. It based upon how many accounts you have open, total of debt, repayment history, inquiries, credit utilization, and other factors. In the financial world your rating exists to predict your ability to repay any loan you borrow.
Credit Score Ratings
- Poor: 300 to 579
- Fair: 580 to 669
- Good: 670 to 739
- Very Good: 740 to 799
- Excellent: 800 to 850
Your credit score not only determines if you will get a loan for a home, but what type. The minimum score needed for an FHA loan is 500. However, it is extremely difficult to find lenders that work with anything less than 640.
If you find your credit score low, you might consider taking time to repair it. A lot of banks will provide you with a credit repair analysis, which outlines what steps you need to take to purchase a new home.
Who Determines my Credit Rating?
While there are others who report on credit, the three major bureaus are
When a bank pulls your number, they will obtain a credit report from all three bureaus. In general, the number should not differ much between them, but there are cases when your score is much higher or lower. If this occurs, the bank averages them out.
If you find a charge, a delinquent account, or any discrepancy on your credit report, notify these agencies immediately and they will take you through the steps to get the issue resolved. You must contact all three as they are separate entities.
Is a Credit Report and Credit Score the Same Thing?
They are tied together but are not the same. A credit report is an outline of your financial history. It provides the lender with an extensive reason behind your credit score. When a bank or major lender pulls your credit report, this is called a hard inquiry or “hard pull” because they are looking deep into your financial history. If you already have a lower credit score, this pull can drop it even more. Although, most lenders will note you were trying to buy a home and take that drop in your score into account.
Both a credit score and credit report are used to determine your creditworthiness and play a major role in determining whether you qualify for home loan programs that allow you to put 0 down.
One point on your credit score determines whether you will be required to put 0, 3.5%, 10%, or 20% down. It also determines what loans you will qualify for, which is important because some are much better than others! Home loans range from 15-30 years. This is a very longtime to be locked into a contract, so you want to be sure whatever loan option you choose, works well for you and your future.
To obtain a copy of your credit report for free, you can contact:
- TransUnion
- Equifax
- Experian
- AnnualCreditReport (Check your score for free, once each year)
- Check out your credit card perks. They often link you to sites such as creditwise for free
- Credit Karma is a popular site
It is encouraged you obtain a copy of this before approaching a lender so you know what to expect and what type of loan you can be considered for.
If you have a low credit score, but a relatively sound debt-monthly ratio and not a lot debt incurred, you still may qualify for a home, but will have to put up to 20% down as the tradeoff. If you make less than a 20% payment, but do not qualify for a 0% down program, you may also be hit with a high PMI.
PMI stands for “Private Mortgage Insurance” and is often attached to conventional loans (See more below). PMI is an extra payment that banks require from risky home buyers to protect the lender should you stop making your house payment. The reason why we dislike PMI is it can raise your monthly payment exponentially. At times, banks may offer higher interest rates instead of PMI but be aware—this can cost you more or just as much depending on the terms.
CREDIT SCORE BOTTOME LINE
Making sure your credit score is 580 or above is the first step to assuring you will qualify for a quality home loan and will not need to put 20% down.
Getting your credit score above 640 will create better loan opportunities, including no PMI, and 0% down options.
If you are married, keep in mind their total debt and income will come against your loan even if they are not being placed on the loan. Therefore, it is recommended that you both have a qualifying credit score before purchasing a house.
What if I Have No Credit?
In some cases, “no credit” is viewed like “bad credit.” Almost always a cosigner will be needed to thwart the credit liability. In this case, a bank might suggest you build your credit, if you do not want a cosigner on your loan.
Down Payment Assistance
There are many programs available to you that offer down payment assistance. Often these programs will cover the entire down payment and work the coverage into your loan. To find programs that are available to you, search for “down payment assistance” in your area. Often, if you qualify for an FHA loan, you meet the requirements for down payment assistance. Taking advantage of this program removes the down payment barriers most face when qualifying for an FHA loan but cannot pay the 10-20% requirement.
Home Loan Types to Consider
There are many different loan types a person may qualify for depending on their situation. Read further to see what option would work best for you.
USDA Home Loan
Minimum Credit Score: 640
Down Payment: $0
USDA Home Loans: The United States Department of Agriculture offers one of the best home loans a purchaser can obtain. Not only does it immediately qualify you for a home loan without PMI, provides lowest interest rates, but it requires you to put zero down. However, because USDA home loans are made to enable median-low income individuals to purchase houses and to flourish housing markets in rural areas, there are some limitations. With an USDA home loan, you are capped at a certain level of income. This is calculated on your state, the number of people in your household, and whether you are married. Income guidelines can be found here: https://www.rd.usda.gov/files/RD-GRHLimitMap.pdf.
One consideration to keep in mind is that an USDA home loan have boundary restrictions. To obtain a loan, you must purchase a home in a rural area, but do not discount this option quite yet—almost all of Washington State is considered rural. USDA boundaries are wide and consider many factors. There is an easy feature on the USDA website that allows you to search if the property you are considering would be approved.
Another great feature about an USDA loan is they allow you to account for repairs. This is not a feature of any other type of home loan—so if you are purchasing a fixer upper or just need to make minor repairs, this loan can help you do it.
USDA Home Loan:
- 640 Minimum
- No cosigner but spouse can be on the loan
- 0 Down
- No PMI
- Low Interest Rates
- Repairs can be included in the loan
- Designed for low to median income families
- Income restrictions
- Geographical limitations
- Secured by the federal government
VA Home Loans
No Minimum Credit Score
Down Payment: $0
If you are a veteran, a member of the National Guard, a spouse of a deceased veteran, or on active duty, you may qualify for a VA Home Loan. Like the USDA home loan, they offer one of the best loan options available, with zero down, low interest rates, and a onetime payment option instead of paying PMI. Also, there is no minimum credit score. However, you must be a veteran or married to a deceased veteran to apply.
VA Home Loan:
- No minimum credit scores
- 0 down
- Purchase option for no PMI
- Low interest rates
- Must be a qualifying service member or married to a deceased service member
- Secured by the federal government
FHA Home Loans
Minimum Credit Score: 500
Down payment: 3.5-10%.
When people say “first-time homeowner loan” they are referring to FHA loans. FHA (Federal Housing Administration) loan were conceived to enable low-and-moderate-income individuals the ability to purchase a home by removing the 20% barrier. Despite being attached to first-time home loans FHA loans can be taken by anyone at any time during their home owning journey. FHA loans are known for accepting lower credit scores and lower down payments, making it an easier option than conventional financing. However, depending on your purchase price 10% can be a relatively large amount of money. FHA loans also do not require PMI, but they do require MIP (Mortgage Insurance Premium) for either 11 years or the lifetime of the loan, depending on credit factors. MIP payments range between 0.45-1.75% of the loan amount. This means, if you purchase a home for $250,000, you will pay around $4,300 a year in MIP payments alone. You can petition to have the insurance removed once you have acquired five years of on time payments.
FHA Home Loan:
- 580 credit score requires only 3.5% down
- 579 or lower requires 10% down
- Requires MIP
- Allows you purchase a home with a low credit score
- Is available to individuals with a low to moderate income
- Can be paired with a down payment assistant program
- No zero down
- Secured by the federal government
- Can petition to have the MPI remove after five years
Conventional Home Loan
Minimum Credit Score: 620
Down payment: 20%
A Conventional Loan is a home loan secured by lenders, banks, or credit unions and not secured by the federal government. Although, at times they do partner with Freddie Mac and Fannie Mae (federal mortgage corporations that purchases mortgages from large and niche banks to create lower interest rates and more lending potential).
There are advantages to conventional loans. One is that the requirement to pay upfront insurance (MPI) that FHA requires or PMI if you have the 20% down is less. With FHA loans you must pay this insurance up to five years, but with conventional loans, you have the option to petition after two years.
In the long run, you save money with conventional loans. With higher down payments, you put more toward your loan, reducing the amount of years and the monthly payment you will spend over the life of the loan. There are possibilities within the construct of conventional loans that you might not have with a federal loan, because private entities own it.
Conventional Home Loan:
- Higher or lower interest rates depending on score
- No federal regulations
- Shorter private insurance times
- Requires 20% down
- Privately owned
Protect Your Financial Health and Financial Well-being
Buying a home can be a complicated and emotional endeavor. The excitation is often shadowed by the concern for your finances. Buying a home should ultimately work to improve your overall financial health. Depending on the cost of your home, and other factors such as interest rate etc. homeownership costs less than renting, builds credit, and does not throw your money away. You build equity that could potentially bring you money down the road. However, purchasing a home is expensive.
Even if you do not have to pay for a down payment, closing costs can average up to $7,500 (or more) if the seller does not agree to pay them. Inspections, appraisals, underwriting and application fees, title fees, prepaid property taxes, state recording fees (if true in your state), escrow fees, agent fees, and for any upgrades not negotiated in your agreement also come at extra cost. Therefore, it is important you go into purchasing a home knowing what is expected, so you can make the decision that most benefits you.
Buying a Home Without Putting 20% Down
While purchasing a home can be exciting, it can be a costly experience. However, by taking advantage of 0 down loans, down payment assistance, and improving your credit score, you can cut the cost of purchasing up to 20%. This not only recovers your bottom line, puts more money in your pocket for associated costs or purchases, but it eliminates financial obstacles that may keep you from purchasing your new home.
