Just how difficult is it for people to come up with a down payment on their first home? It’s so hard that nearly 60 percent of couples would be willing to forgo their honeymoon for a down payment, according to a recent ERA Real Estate survey of 1,000 people in committed relationships. And nearly 50 percent of women said they’d give up a big engagement ring.
Another survey of 500 adults, by the real-estate website Trulia, found that 37 percent of Millennials plan to work a second job to come up with a down payment. Those in the mortgage industry say they’ve heard people selling off their things, from cars to surfboards, to raise the money.
For 60 percent of people between the ages of 18 and 34, their finances are the biggest obstacle to becoming a homeowner, according to Trulia. It’s a reason that first-time buyers have been largely absent from the housing market’s recovery.
Years ago, when mortgage underwriting was much less strict and lending programs more lenient, “there was almost no barrier,” said Cyndee Kendall, regional mortgage sales manager and vice president of the Northern California region for Bank of the West.
“For years, first-time buyers were in their late 20s and early 30s, and they put as much down as they could to qualify and keep their payments low,” said Julie Reynolds, spokeswoman with LoanDepot. “But LoanDepot is seeing their average age inch up and their down payments shrink. A lot of people want to put 10 percent down, but can’t.”
Below are some top ways first-time home buyers are finding money for their down payments — and what to watch out for when taking these avenues.
No one wants to hear they should give up their morning latte to save. But cutting back somewhere in your expenses can be very effective. “The best way is to save for a down payment over time, from your income,” said Karen Carlson, director of education and creative programs for InCharge Education Foundation, a nonprofit that focuses on personal finance education.
“Here’s how: downgrade your automobile for lower monthly payments, cut out cable television in favor of an online service, sell your stuff, take on temporary short-term work,” she wrote in an email. (She also notes that saving for a down payment is just the beginning; homeowners also should have a robust emergency fund.)
Brown bagging it at work could save $10 a day, which, for a couple, comes out to $100 a week or $4,800 a year (52 weeks, minus vacation and holidays off), Reynolds suggested.
Here’s the problem: Many millennials have no interest in cutting their little luxuries, according to the Trulia survey. When asked about the items they’d never give up to save for a down payment, 65 percent said their car, 45 percent said their smartphone, 20 percent said their cable, 15 percent said their Netflix subscription, 14 percent said their vacations and 13 percent said dining out.
Gifts and Loans
Half of millennials said they’d ask their parents or grandparents for help in coming up with a down payment, according to the Trulia survey. And for many, that can be a good move. But there’s one important caveat: There’s a difference between getting a gift with no strings attached and a loan that is expected to be repaid.
“Gift money is always a great option. We always recommend that there is a paper trail for the buyer on any deposits they receive (ask the family member to provide a cashier’s check, etc.),” wrote Phyllis Caldwell, director for the Center for Homeownership in Winston-Salem, N.C., in an email interview. The paper trail is important because mortgage lenders will often want to see documentation of where the money came from. “If they are getting a loan from a family member, keep in mind that this could be considered as debt, and I would caution against this if there is an impact on their debt-to-income ratios,” which will impact mortgage eligibility.
Some newlyweds downsize their wedding festivities to save, Kendall said, or they count on cash gifts from wedding guests to add to their savings.
Help can also come from state and local programs for homeowners. For instance, in Illinois, the Welcome Home Illinois program provides borrowers with $7,500 in down-payment assistance and a below-market mortgage interest rate.
Taking a 401(k) loan is another way of funding your down payment. About 15 percent of the time, buyers take a loan from their 401(k)s; it’s more common among first-time buyers, Kendall said. But many financial experts suggest proceeding with caution. “You can take a loan out to buy a house, but you can’t take a loan out for retirement,” said Jeanne Thompson, vice president of Fidelity Investments.
With a 401(k) loan, you’re liquidating assets from your 401(k), and the money gets paid back automatically through your paycheck over time, Thompson said. There are limits on how much you can borrow. But if the money isn’t paid back by the time you leave your job, you’re going to have to pay the loan back immediately — or be taxed on the outstanding balance, she added.
But perhaps the biggest problem with taking out one of these loans is that while paying it back, it will likely be difficult for you to save as much as you would have otherwise, Thompson said. And you could miss out on market growth while the money is missing from your account. “People may feel like if they have $50,000, taking out $10,000 isn’t that much,” Thompson said. “But especially when they’re young, the potential for that to grow is significant.”
Consider Alternative Loan Products
Perhaps getting a 20 percent down payment seems impossible. But what about 10 percent or 3.5 percent? By considering all your loan options, you may be able to lower your down payment requirement.
Bank of the West offers an 80-10-10 or “piggyback” option, meaning you’ll have a first mortgage for 80 percent of your home value, a second mortgage in the form of a home-equity line or loan for 10 percent of the value, and a 10 percent down payment. While these loans were very popular before the housing crash, it won’t be very easy to find them in the marketplace today, Kendall said. “We’re one of the few banks that didn’t stop doing them,” she added. Often lenders will, however, let those who qualify put down less than 20 percent, on the condition that they pay for private mortgage insurance.
Loans backed by the Federal Housing Administration and the Department of Veterans Affairs allow smaller down payments. But in the case of FHA mortgages, a 3.5 percent down payment comes at a price: You’ll pay monthly mortgage insurance, through the life of the loan, Kendall noted.
Amy Hoak is a MarketWatch editor and columnist based in Chicago. Follow her on Twitter @amyhoak. This article originally appeared on MarketWatch.com and is reprinted by permission from Marketwatch.com, ©2014 Dow Jones & Co. Inc. All rights reserved.