Saving enough money to make a down payment on a home is at times the most difficult task that would-be homeowners face, and one that often prevents people from getting their dream homes. Even putting away the bare minimum of 3% down can be an insurmountable obstacle for some. For many of these folks, an 80/20 piggyback loan may be the solution. Let’s look at how one can buy a home with zero money down with an 80/20 mortgage.
What exactly is an 80/20 mortgage?
When you use an 80/20 mortgage to buy a home with no money down, you’re making one purchase with two separate loans. The first loan goes toward 80% of a house’s selling price; the second, as you may have guessed, is used to cover the remaining 20% of the home’s cost. The first is a traditional mortgage loan, often with a 30-year term at a fixed interest rate. The second loan is usually either a 15-year home equity line of credit or a similar home equity loan, often with a variable interest rate.
When closing on an 80/20 mortgage, the buyer will finalize two distinct loans, and each month needs to make two separate mortgage payments. Does it all sound somewhat convoluted, and maybe even unnecessary? It’s not. Here’s why.
Why use a pair of loans to purchase a house?
Most borrowers look to 80/20 loans to get two benefits: no down payment and the avoidance of having to pay private mortgage insurance (PMI) each month. The tactic does something of an end-run around a more traditional mortgage in which private insurance is required if the homebuyer puts down less than 20% of the cost of the home. Normally, when little or no money is put down on a home, lenders want the security that PMI provides in the event that there’s a default. However, with an 80/20 mortgage loan, the 20% that would normally need to be put down is covered by its own mortgage, so PMI isn’t necessary.
Who qualifies for an 80/20 mortgage?
As 80/20 loans do carry some risk for the lender, borrowers often need to have higher credit scores than they would need for some other types of mortgage loans. Lenders generally want a credit score of at least 700 and like the borrower to have a low debt-to-income (DTI) ratio, 45% or below is usually preferred. Plus, potential borrowers will have better chances of getting approved for an 80/20 mortgage if they have solid employment records, steady residency histories, and a reasonable amount of savings in the bank. While no single one of these factors will be determinative of approval, these are the main things that lenders will probably consider.
What are some of the benefits of an 80/20 mortgage?
Flexibility is a big one. As the second loan for 20% will likely be a home equity line of credit, its use isn’t limited to just paying off the home. After you pay down a portion of that loan, the credit line can then be used for any number of purposes, including the popular choice of cash for home improvements. Then there are tax benefits to consider with an 80/20 mortgage, as interest on mortgage loans — including home equity loans — may be tax deductible.
Do 80/20 loans have any restrictions I should know about?
This varies from case to case and lender to lender. There can be a cap on the amount of the second loan that’s for 20%, perhaps a limit of $100,000. A common requirement set by lenders for 80/20 mortgages is that the borrower lives in the home, using it as their primary residence, so purchasing investment properties isn’t generally possible with the 80/20 route.
What are some costs to consider with 80/20 mortgages?
As you will be closing on two mortgages when you buy your home, you may have to pay the closing costs on each. Though some lenders overlap these costs when issuing 80/20 mortgages. While closing costs on home equity lines of credit (HELOC) are usually lower than those for primary mortgages, they are not insubstantial, usually between 2% and 5% of the loan’s amount. And bear in mind that if the second loan is at a variable rate, that rate has the potential to rise; the historically low interest rates of the recent past were always bound to increase.
VA Loans: Another Way to Buy With No Money Down
An 80/20 mortgage isn’t the only option for putting zero money down on a home. Backed by the U.S. Department of Veterans Affairs, VA loans don’t require a down payment because the government guarantees that the lender will recoup up to 25% of the loan’s amount in the event of default. These loans are available to active-duty members of the military, veterans, and some surviving spouses, all verified as eligible with certificates of eligibility (COEs) they receive from the Department of Veterans Affairs. Beyond the no-money-down aspect, a big benefit of a VA loan is that you don’t have to get mortgage insurance as you do with other types of mortgages when there’s a down payment of less than 20%.
What are some requirements for VA loans? All eligible buyers must live in the homes they’re getting the loans for; VA loans can’t be used to buy investment properties. And there are generally funding fees to consider with VA loans, though some borrowers may be able to get these waived, as is the case with some disabled veterans and recipients of Purple Hearts.
Do you feel it’s time you owned your own home but don’t have quite enough cash for the down payment? If you’re on solid financial ground, an 80/20 mortgage may be the best way to realize your dream of becoming a homeowner. Contact us today to talk about how you may be able to buy a home with no money down.