Saving for a down payment can be challenging, and many homeowners say it’s the hardest part of the home-buying process. When buying a house with a mortgage, you'll need to plan to pay for the down payment and closing costs, but how can you be sure that you've saved enough?
How much money do I need to buy a house?
The short answer: there is no standard set amount of money required to buy a home. The amount of your down payment will vary, of course, depending on the price of the house, the amount of your loan, and the type of loan you have. But typically, most lenders recommend a down payment of at least 20% of the total purchase price. If you put down less than 20% (and you borrow more than 80%) of the home’s purchase price, you will probably have to pay private mortgage insurance (PMI). PMI is a requirement from the lender for their own protection in the event that you default on your loan. And you would need to keep paying for PMI until you accumulate 20% equity in the home. Paying for PMI could add thousands of dollars on top of the cost of your loan. If you put down over 20%, you will not have to worry about PMI at all.
And remember, you also have to pay closing costs in addition to the down payment. Closing costs/fees, which can include attorney fees, servicing fees, loan origination fees, and underwriting fees, can be anywhere from 2-6% of your total loan amount. So you will need to determine the closing costs and ensure you have enough saved to cover both the down payment and the closing costs. Foresight is imperative here, so you can get a general idea of what you will need to pay when you buy a home.
But 20% isn’t always doable for home buyers, and lenders know that. This may surprise you, but the average first-time buyer puts down just 6%, well below the recommended 20%. That’s why many lenders offer loans that allow for low down payments, but you need to qualify and meet their requirements. For comparison, standard mortgages require a minimum 5% down payment for those with a 620 credit score and have fewer restrictions than some other loan types. The Conventional 97 Loan requires a credit score of at least 620 and a down payment of 3% down payment, but the home must be a single-family dwelling, you must have a fixed-rate mortgage and there is a loan maximum. HomeReady and Home Possible Mortgages have income maximums, require 3% down, and may require borrowers to enroll in an educational course.
But if you are a first-time or low-income home buyer, you may be eligible for special loan programs through the VA, USDA, and FHA, which allow for very low or no down payment. There are also many down payment assistance programs across the country that offer grants and loans to buyers who need help with their down payment.
VA Loans
Backed by the U.S. Department of Veterans Affairs, these loans are only available to members/veterans of the military and their spouses. VA loans have no down payment requirement, are flexible with credit scores (typically over 580) and other credit-related issues (such as bankruptcies), and offer below-market interest rates. There is also no limit to the loan amount. PMI is not required, but borrowers do have to pay a guarantee fee, which can be absorbed into your loan principal (the balance of your loan) to be paid off over time instead of as a one-time payment.
USDA Loans
A USDA loan, also called a “Rural Housing Loan,” was originally meant for borrowers in rural areas, but can also be available for suburban buyers. These loans do not require a down payment but typically require a credit score of 640. Backed by the U.S. Department of Agriculture (USDA), interest rates are low, and there is no limit to the price of the home. There is a guarantee fee, but it can also be absorbed into your loan principal. There is an income limit of 115% of the local median income, and availability may be limited in areas that don't meet population density requirements.
FHA Loans
With slightly less restrictive eligibility requirements, FHA (Federal Housing Administration) loans require only 3.5% down. These loans are insured by the Federal Department of Housing and Urban Development (HUD), which also determines the rules and guidelines governing these loans. FHA loans are not actually offered by the FHA but by traditional, private lenders. But because they are backed by the FHA, this loan program allows below-average credit scores (typically a score of 500 with 10% down or 580 with 3.5% down). There is no requirement regarding the source of your down payment, meaning it can be paid with down payment assistance or gift funds. But PMI is required, and the home needs to be your main residence. There is a loan maximum up to which the FHA will insure--$822,375 in high-cost areas like New York City.
How much should I save to buy a house?
While there is no requirement for how much you need to save to buy a house, you should save enough to have an emergency fund after your down payment and closing costs are paid. A good rule of thumb is to have enough left after your down payment and closing costs to cover 3-6 months of expenses. In addition to having money saved in case something comes up (a home repair, a medical issue, etc.), a cash reserve will also provide a safety net to keep you from defaulting on your loan. Your lender may require a certain amount of savings, though most lenders require a liquid cash reserve of 2 months so that you have enough money saved to pay your first two mortgage payments.
Saving up for a down payment can take time and delay your purchase, especially if you plan on paying 20% down. If you know you’re going to buy a home in the near future, start saving now. Calculate how much you'll need to save every month and for how long in order to meet your goal. For example, if you’re looking to buy a home for around $350,000 and plan to pay 20% down, you will need to save at least $70,000. And that’s just for the down payment. It does not include closing costs and several months of cash reserves. If you're planning on selling your current residence in the transition to your new property, any profit you make from the sale of your current home can go towards your down payment and any additional costs or fees.
The Bottom Line
While there is no general minimum you need to save, you should save enough so that you can safely afford all the costs associated with buying a new home while also leaving a safety net. It can take time to save, so consider setting a budget, working on raising your credit score, and creating a plan well in advance to give yourself plenty of time to save. A licensed Ruoff Mortgage Loan Officer can help you by answering any questions you may have about the type of loan that would be best suited for your needs, and will help guide you through the purchasing process when you're ready to buy your new home sweet home.