You are finally in position to afford mortgage payments, but you don't have the standard 20% down payment required for many home loans. Should you continue to save for a future down payment, or borrow down payment money?
Generally, it's not allowed to borrow the entire down payment in a separate loan through a private lender. However, there are still some ways to acquire or borrow down payment money, or reduce the amount the lender requires. It is best to discuss your options with lenders upfront to verify their rules.
- Borrow/Withdraw From Retirement Programs – Typically, you can't withdraw money from an IRA before age 59-1/2 without penalty. However, if you are buying your first home and meet certain qualifications, you may be able to withdraw up to $10,000 from your IRA on a one-time basis. You must use it within 120 days and pay taxes on the withdrawal, but there are no penalties.
In some cases, you can borrow from a 401(k) program, up to $50,000, depending on your available funds. You must pay the loan back within a "reasonable time.” Check with your employer and 401(k) administrator on the rules regarding repayment, tax ramifications, and what happens if you were to leave the job during repayment. You also should consider whether your money is better off growing tax-free or being used for a down payment.
Borrowing from retirement programs may factor into the debt-to-income ratio (DTI) used for loan qualification – check with your lender.
- Gifts from Friends/Relatives – If you have relatives or friends that can give you money for a down payment, that's extremely helpful. They will need to fill out a letter stating that the funds are a gift, not to be repaid, and provide a paper trail for the funding (to prove to lenders that it is not a back-door method of getting a second loan for the down payment).
While you may prefer borrowing down payment money from Mom and Dad instead of receiving it as a gift, think of it from the lender's perspective. They are already financing a large portion of your house purchase, and in essence, you would be borrowing from a second lender (albeit one you know) at the same time on the same property. The bank will likely deny the loan assuming you have overextended yourself.
Some lenders have restrictions on the amount of down payment money that can come from gifts. Check with your lender for verification.
- Consider Government Programs that Allow Lower Down Payments – If you qualify, the FHA, VA, or USDA government programs offer loans with lower down payments, by reducing the risk on the lender to extend you a lower down payment. Loans with 5% down or even zero down can be acquired, but these come with other costs and terms – down payments less than 20% require private mortgage insurance, and less money down may mean longer terms and more interest payments.
- Selling Assets or Personal Goods – Selling assets, like your car or motorcycle, are perfectly acceptable to acquire a down payment – just provide a paper trail to verify the source.
A gift, or a sale of unwanted assets, is a simple, reasonable way to acquire down payment money – but if you have to borrow down payment money, please take into account all of the cost ramifications. Investigate the possibilities with your lender, and consider whether you are buying more house than you can afford, or before you can truly afford it. In the end, only you can decide what is best for your situation.