Down payments are lower than ever

Lack of sufficient down payment adds risks to home ownership

For decades, the traditional model of home ownership worked like this - buyers saved their money, put down 20% or more of the purchase price, and funded the rest of the house with a fixed-rate mortgage paid over 30 years. There were some problems with that model - it’s hard to save enough money for the down payment. The overall lack of savings in the United States has left fairly few Americans with the savings ability or discipline to put aside enough money to make such a down payment. In response, the lending industry has created hundreds of different types of mortgages, most of which do not have such a hefty requirement for money down.

Buyers have taken advantage of these mortgage options, and home ownership is the highest it has ever been. Nearly 70% of Americans now own their own homes, a record number. But there are problems associated with putting little money down on a home purchase, and nearly 40% of home buyers this year will put less than 5% down on their purchase.

Here are a few of the problems:

• Most lenders will only finance 80% of the purchase price. If the down payment is less than 20%, then Private Mortgage Insurance (PMI) will be required. Many buyers skirt this requirement by taking out a second loan, known as a piggyback loan, for the remaining 20%. This puts lenders at risk, as the entire price of the house has been financed. 
• For most Americans, the equity in their homes is their single biggest asset, and many Americans borrow against it for emergencies, home repairs, debt consolidation and more. With no money down, the owners have no equity in their homes for emergency use. This, combined, with the increasing popularity of interest-only mortgages, means that homeowners must rely exclusively upon property appreciation in order to acquire any equity. As prices reach all-time records, the continuation of price appreciation seems less likely.
• Foreclosure rates are up. In some states, such as Texas and Florida, home foreclosures are approaching an epidemic. Prices are high, interest rates are rising, and salaries are stable. This makes home ownership difficult to attain. New, creative mortgages that require little payment of principal and little down, make it easier for people to buy. The downside for lenders is that the buyers don’t have anything personally invested in the property. This means that the buyers have little, or nothing, to lose in the event of a foreclosure. If a buyer can’t make his or her mortgage payments and hasn’t put anything down, then he or she isn’t losing any money if the home is foreclosed upon. Yes, a foreclosure will show up on a credit report, but for most people, that’s less important than actually losing cash.

The real estate industry in this country is setting itself up for a big crash. Prices are high and made even higher by appraisal fraud. Lenders are offering risky loans and buyers aren’t taking on any, or enough, of the risk of the purchase. This could be the signal that the real estate boom is coming to an end soon. Buyer beware.