How to buy a house with no money down
Buying a home shouldn’t be reserved for the wealthy. Everyone deserves the chance to own their own home if they choose. Buying a home is out of reach for many individuals due to the high cost of purchasing. That’s why mortgage lenders and the federal government have made homebuying more accessible. When purchasing a property, a certain formula is used:
Home cost - down payment = loan amount
A down payment is the amount of money you can put down immediately toward the total cost of your home. This determines the loan amount you will need to borrow. While not required in most cases, the ideal down payment option in a very competitive market is 20% LTV (LTV stands for loan-to-value ratio, which is how much the loan is compared with the selling price of the home).
However, 20% of $195,000 (the median home cost in Illinois for 2021) is $39,000. This is unaffordable for many new buyers. This leaves many wondering how to buy a house with no money. Lenders do make it possible to purchase a home with a smaller down payment. What is a zero-down mortgage anyway, and how can you qualify?
What is a zero-down mortgage?
Zero-down mortgage definition
There are many different mortgage loans available to homebuyers, but not all of them are appropriate for everyone. A zero-down mortgage is a type of loan that doesn’t require a down payment. For those who have less money to put down up front, this is an obviously appealing choice. However, these loans aren’t acquired easily, and you must meet specific requirements to get this type of loan.
The only zero-down mortgages available are government-backed loans. The reason lenders don’t offer zero-down mortgages is because of the risk of you not paying them back. If you haven’t put down any money to purchase the home, you can more easily walk away from the investment. The government guarantees the loan through user fees, mitigating the risk lenders might take on a zero-down mortgage.
It’s important to remember that even when a loan requires a zero down payment, there may still be closing costs or other fees. Closing costs are fees charged at the closing of a homebuying transaction. They account for underwriting costs, commissions, taxes, filings and more expenses that arise during a real estate transaction. They can be paid by both the buyer and the seller, and the percentage owed depends on the terms of the deal. You will always be aware of any closing costs required before signing onto a loan. It is illegal for a lender to mislead you or omit the requirement of such fees.
First time home buyer loans with zero down
There are two government-backed loans that can help eligible homebuyers purchase a home with zero down. They each have different rules that dictate who can and cannot get this type of loan. See if you can get a no down payment mortgage.
VA Loan
The United States Department of Veterans Affairs offers 100% financing to service members and their families. If you’re looking for first-time homebuyer loans with zero down, this is a good option. Active service members in the military or National Guard, spouses of deceased veterans and veterans are all qualified for this type of loan. In order to be approved for a no down payment mortgage with the VA, you must meet this criteria:
- Served 90 consecutive days active service during wartime
- Served 181 days active service during peacetime
- Served six years in National Guard or Reserves
- Your spouse was a service member who died in the line of duty or due to a service-related disability
Additional potential qualifications are:
- Discharged due to reduction in force, or at convenience of government
- Discharged for medical condition, such as a service-related disability
- Discharged for early-out after serving a minimum of 21 months out of a two year enlistment
The VA doesn’t set a minimum credit score requirement but you can expect certain lenders to. Many lenders require a minimum range of 580-620. It just depends who you get your loan from. If you’re worried because your credit score is below 580, it may still be possible to buy a home with poor credit. The VA also has residual income requirements that will depend on your personal situation. Some benefits of a VA loan are:
- Zero-down home loan
- Flexible credit score requirements
- Lower mortgage rates
- No mortgage insurance required
- No maximum loan amount
USDA Rural Housing Loan
The United States Department of Agriculture offers 100% financing for buyers who want to purchase a home in a rural area. This means you will have to put zero down to purchase the home. They do this to encourage development in rural areas across the country. Some suburban areas are also considered eligible for this zero-down home loan. Some requirements for the USDA loan are:
- Income of ALL adult household members is 115% of the county median household limit
- Property is located within a rural, eligible area
- Property is a single-family existing, new construction, condo, PUD, or modular type
- Property has no land or buildings utilized for income producing purposes
- You are a U.S. citizen, non-citizen national, or qualified alien
- Your debt-to-income ratio is no lighter than 45%
While there are fairly strict guidelines for a USDA housing loan, if you’re able to get one, there are many benefits. Benefits such as:
- Zero down payment
- Lower mortgage insurance fees
- No maximum home purchase price
- Expanded ratios and flexible credit
- Potentially lower closing costs
- Below market interest rates
- Usually the lowest cost for homebuying
What if you don’t qualify for government-backed loans?
There’s a lot to understand for those learning how to buy a house with no money down. As you can see, it’s no easy task. Not everyone can qualify for a no down payment mortgage. So, what do you do if you don’t qualify for a USDA or VA loan?
You’ll be happy to hear that there are alternative low-cost options for individuals who don’t qualify for USDA or VA assistance. It’s important to keep in mind that not every loan is right for your situation. You need to understand your needs and determine which loan best serves you. What are some low down payment mortgages and their required payment percentages?
Conventional 97 — 3% option
When it comes to mortgages with low down payments, a conventional loan is popular for many reasons. This type of loan allows you to borrow up to 97% of a home’s purchase value, leaving only 3% for you to pay as a down payment. You cannot pay less than a 3% down payment for this loan type. This loan type is offered by Fannie Mae and Freddie Mac and is intended for first-time homebuyers, although there are exceptions to this. While it holds similarities to FHA loans, this conventional loan is a more affordable option. Some defining factors of this loan type are:
- Must be a fixed rate mortgage with a 30 year maximum term
- Cannot be an investment property
- Must be single-family, cooperative, condo or PUD type
- Must pay private mortgage insurance (PMI)
- Must not exceed average loan limit for the county the property resides in
- Down payment amount can be paid from gifted funds under certain circumstances
- Income limitations may apply
Home Possible® Freddie Mac Loans —3% option
The Home Possible® loan is a great option for very low to low-income borrowers. It requires a 3% minimum down payment which is one of the best options for those who are low-income but don’t qualify for no down payment home loans. Some features of this loan are:
- Flexible sources of down payments (family, employer assistance programs, sweat equity, etc)
- PMI is required but can be canceled after loan balance drops below 80%
- Credit fees are lower than standard fees
- Must be condo or PUD home type, and manufactured home with some restrictions (can be 1-4 units)
- Income limit of 80% of AMI for parties listed on loan (as opposed to entire household)
HomeOne® Freddie Mac Loans - 3% option
Freddie Mac also offers the HomeOne® mortgage loan which has a 97% LTV. However, this is only available to first-time homebuyers. This makes homeownership more accessible to first-time buyers. Some qualities of this type of loan are:
- No geographic or income limits
- Homebuyer education required for first-time buyers
- 35% mortgage insurance coverage required on LTVs > 95%
- Only one-unit properties with fixed-rate financing are eligible
HomeReady® Mortgages —3% option
This type of loan is similar to the Home Possible loan offered by Freddie Mac. This loan is offered by Fannie Mae and was created to aid multi-generational households in getting approved for mortgages, although many other people are eligible. Some things you can expect from the HomeReady® Mortgage is:
- Below market mortgage rates
- Reduced PMI costs (cancellable after a certain payoff)
- Credit score minimum of 620
- Required home ownership education for first-time homebuyers
- As low as 3% down payment necessary
- No geographic restrictions on loan amount
FHA Loans — 3.5% option
This is the most popular government-backed home loan in the U.S.A. They are insured, specifically, by the Federal Housing Administration. The down payment option for this type of loan can be as low as 3.5% — a bit more expensive than the other loans we’ve talked about. The credit score requirements are a bit more accessible for a wider range of people. Some borrowers, with a score as low as 500, can get an FHA loan. However, the lower your credit score, the larger down payment you’re required to make. So, for a score of 500, you would pay 10% in down payment. Some defining factors of these loans are:
- Lower interest rates
- Flexible credit requirements (though you will get the best down payment with a 580 credit score or higher)
- Sellers can pay up to 6% of the loan amount in closing costs
- Entire down payment can come from gift funds or assistance programs
- Mortgage insurance premiums can be included in loan amount
Conventional Loans — 5% option
This is a little less restrictive than the conventional 97 loan. This is a loan that isn’t backed by the government. They’re originated by banks, credit unions or other financial institutions. These loans do have a slightly more expensive down payment option, coming in at 5% on average. These are known for being the most popular type of loan because of their flexibility and accessibility. Some features include:
- Credit score minimum of 620
- Higher loan limits
- PMI required (but cancellable after gaining 20% equity)
- 15, 20 and 30 year loans available
Piggyback Loans — 10% option
This loan is the least accessible option out of the low cost down payment options. It is reserved for homebuyers with higher credit scores. It is broken out into two loans which offer lower payments. The required down payment is 10%. Then you are given a mortgage for 80% of your loan amount, and a second mortgage for 10%. This second mortgage can also be known as HEL (home equity loan) or HELOC (home equity line of credit). You can expect:
- To avoid PMI costs due to the nature of the piggyback loan
- Everything closes at the same time as opposed to two separate closings per loan
- Higher interest rates
- $100,000 loan limit
Down Payment Assistance
Unfortunately, making a down payment on a house isn’t always possible, even with these lower cost loans. You don’t have to give up hope, however. Down payment assistance is a great option for first-time homebuyers who feasibly can’t swing a down payment. These are grants from state or local assistance programs with usually reasonable requirements. These programs can be run by nonprofits, finance agencies, county and city governances, and employers. Help can come in the form of:
- Grants
- Zero interest forgivable loans
- Zero interest deferred payment loans
- Low interest loans
What are seller concessions?
Seller concessions are a type of closing costs. As aforementioned, even if you get a zero-down mortgage, you will most likely still have to pay closing costs. Seller concessions are part of these closing costs that the seller agrees to pay. They may cover part of all of the closing costs. Some possible costs include:
- Appraisal fees
- Inspection fees
- Property taxes
- Origination fees
- Attorneys fees
- Recording fees
This is not an exhaustive list. If you’re unsure which costs your seller is willing to pay, work with your lender, attorney and agent to determine what you can expect. Even if a seller agrees to pay closing costs, you may still have to pay some of them yourself.
What is PMI?
PMI Definition
Private mortgage insurance is something you may have recognized when discussing several of these low down payment loans. It is a form of insurance that lenders require if you pay less than 20% in down payments for your home. This is to add security to their investment and protect them in the case of foreclosure.
If you didn’t put much money down toward your property, it’s easier for you to walk away and stop paying your mortgage. By requiring PMI, it increases your investment in the property and lowers the chance of you abandoning payments. PMI can usually be canceled after you’ve acquired enough equity in the home.
What are credit scores?
In our society, your credit score affects many opportunities in your life. It affects if you can buy a home, a car, get a credit card etc. Basically, it determines your eligibility for nearly every kind of loan, including mortgage loans. If you’re looking at buying a house with no money down, the better your credit score — the better your chances.
Credit scores are ranked from 300 to 850, with the larger scores being valued the most. Scores range from poor to excellent. Your credit history determines your score. This can include factors that count for you and factors that count against you; factors such as open debts and past debts, open accounts, repayment track record and length of credit history. If your score is higher, it indicates that you’re more trustworthy and the likelihood of you paying back your loan is more favorable. Scores of 700+ are considered good while scores of 800+ are top-tier and the most sought-after but also the most challenging to get.
When you have a good credit score, lenders will often offer you lower interest rates, which is reflected in the zero-down mortgages and low down payment mortgages listed above. Some loans have more flexible credit score eligibility, so if you don’t have the best credit, don’t discount yourself immediately.
How to determine if you can afford a home
Buying a home is one of the largest investments you’ll make in your lifetime. Determining which kind of home you can afford requires a lot of preparation. You need to understand your finances and budget accordingly. Figuring out which loans you’re qualified for with your current credit score can help you budget realistically. You also need to keep in mind that even zero and low down payment loans come with closing costs and fees. Take note of your down payment, closing costs, fees and future mortgage payments you can afford. If you’re prepared, becoming a homeowner can be less stressful and result in a better outcome for you and your family.
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