When you buy a home, there are several up-front costs you should be aware of, particularly down payments and closing costs.
Down Payments
A down payment for a home is usually between 3% and 20% of the total cost of the home. The amount of the required down payment depends on your credit history, income, the cost of the home, and the type of mortgage you choose. Many first-time homebuyers put down 3 to 5% of the cost of the home, although there are options available requiring less than 3% so ask your lender if this is something you are interested in.
If your down payment is less than 20%, you will likely need private mortgage insurance (PMI). This is insurance you pay to protect the bank if you don't repay your loan in full. PMI can be added to your closing or monthly mortgage costs. When you apply for a home loan, you should also have at least two month's worth of mortgage payments saved, called reserves.
Some borrowers are using 80-10-10 financing which allows them to finance 90% of a home's purchase price without paying PMI. 80-10-10 financing is essentially two mortgages – the 1st one for 80% of the purchase price and a 2nd for 10% of the purchase price (these are often from the same lender). The two combined allow the borrower to finance 90% of the mortgage but without paying PMI.
Most lenders want to know the source of your down payment and have restrictions about how much can come from gifts from a relative. Ask your lender for more information.
Closing Costs
Closing, or settlement, costs are fees you pay when you actually get your loan from your financial institution. These include points, taxes, title insurance, financing costs, items that must be prepaid or escrowed, and other settlement costs. You should negotiate for lower fees the same way that you should negotiate for the best rate. Some fees, such as taxes, may be fixed but your lender may be willing to negotiate others.
Closing costs generally range between 2 to 7% of the property value. You'll receive an estimate from your lender after you apply for a mortgage. You must pay these costs before you move into your new home.
About PMI Insurance
Generally, if your down payment is less than 20% of the price of the home, you will be required to purchase Private Mortgage Insurance (called PMI or sometimes MI). This protects the lender if you should be unable to pay off the loan.
Federal law requires PMI to be cancelled under certain circumstances; for example, when you have paid off a certain percentage of your mortgage or your home's property value has increased to a certain percentage above the value of the mortgage.
Contact your lender for specific information about the status of your private mortgage insurance.
