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How to Manage the Down Payment

Not so long ago, if you wanted to buy a $200,000 house you'd need at least $40,000 for the down payment. While 20 percent is still the "gold standard," these days it's not uncommon for homebuyers to put down 5 percent or less. Since the size of the down payment you make still affects the interest rate, mortgage fees, and chances for loan approval, you shouldn't necessarily lower your target, but don't let a small down payment stand between you and the American dream.

How Much Do You Really Need to Put Down?

Under the right circumstances, you might need very little - or nothing at all - for a down payment. One Fannie Mae program makes it possible for public servants, such as police officers and teachers, to get a mortgage with as little as $500 down. Other loans require a down payment of only 3 percent, and some provide help with closing costs.

While these programs have done a great job of getting many people into a home of their own, there are a fair number of restrictions on who qualifies for help, and on which properties are available. Eligibility criteria can include things like annual income, home price and location, and whether or not you qualify as a first time homebuyer.

Unless you do qualify for one of these special programs, you should plan on coming up with at least 5 percent down.

Private Mortgage Insurance Is the Price of a Small Down Payment

If you aren't able to come up with a 20 percent down payment, lenders may require you to pay for private mortgage insurance (PMI), which protects them against a loss if you default on the loan with very little equity in the house.

The annual cost of PMI typically runs around one half to one percent of the loan amount, which could add anywhere from twenty-five to several hundred dollars to your monthly housing bill. You may be able to request cancellation of PMI when your equity in the home reaches 20 percent.

Monthly Payments For A $250,000 Home at 7.5%

Down Payment % 20% 10% 5%
Principal and Interest $1,398 $1,573 $1,661
PMI - $98 $154
Total Monthly Payment $1,398 $1,671 $1,815

Assumes 30-year fixed mortgage

Closing Costs Will Add to Your Upfront Expense

When you're considering how much house you can afford and how much money you'll have to set aside for your down payment, don't forget you'll need to be able to write some pretty big checks to cover closing costs, too.

The California Department of Real Estate estimates that you'll need to have 3 percent to 7 percent of the purchase price available at closing to pay for loan fees, taxes, inspections, title fees and other expenses. Unless you're able to negotiate to have the seller pay all or part of the closing costs, that's money you'll need in cash on top of your down payment.

Where to Stash Your Cash Before You Buy

When you're trying to build and protect your savings for a home purchase in the near future, the question of where to keep your money can be a challenge.

On the one hand, you want your money to grow, even as you add to your savings. But many high-return investments are just too risky or too difficult to get out of in a hurry. Most financial advisors recommend that money needed within six months be kept out of the stock market and in more stable investments. They recommend finding the best money market or savings account rate available or checking out shorter-term CDs (especially if you're sure you won't need the money before the CD is available in three or six months).

Document Your Down Payment to Prove Saving Habit

Lenders won't take your word for how much money you have available for a down payment and closing costs. They will want documentation, so be ready to provide it.

If you've moved money out of a brokerage or other account into your short-term down payment fund, make sure you can show the brokerage records as well as the transfer. Lenders want to see that you've had the discipline to save consistently.

If relatives or a friend gave you money for the down payment, ask for a letter specifying the money is a gift. Otherwise the lender might consider it a loan that you have to pay back -- and any debt affects the size of mortgage they are willing to give you.

Buying a Home Can Be a Great Investment

If you do have to take money out of the stock market or other investments to come up with your down payment, do it with the knowledge that real estate itself can still be one of the best investments around.

So take a sharp pencil to your family budget, sock away all you can, investigate the numerous loan programs, and soon you'll be able to call yourself a homeowner too.

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