How To Buy A Home In A High Interest Rate Environment

In some markets, high interest rates have cooled the trajectory of home price appreciation; with home sales dropping 18.7% from 2022 to 2023 and the national median home price increasing less than 1% in 2023. This is good news for first-time homebuyers who saw home prices in some markets increase 20% or 30% in prior years.

So, if the home price is within range, how much cash do you need for a down payment? You may think it is 20%, but the truth is, you can qualify for a mortgage with as little as 3% down.

According to U.S. Mortgage Insurers, private MI has helped nearly 39 million borrowers access homeownership with low down payments. Further, private MI helped nearly 800,000 homeowners purchase a home or refinance a mortgage in 2023, with nearly 35% having incomes below $75,000 and more than 64% of those loans going to first-time buyers. In addition, the most common form of private MI, paid monthly by the borrower, helps homeowners begin building equity sooner and is also only a temporary cost that can be canceled after 20% equity is established. Importantly, once private MI is canceled, the monthly mortgage payment goes down, unlike loans backed by the Federal Housing Administration (FHA), a government program featuring monthly MI premiums that are generally not cancellable.

Each homebuyer's finances are different, therefore it is important to do the math before buying a home. Home prices and interest rates impact the monthly cost, but luckily the private MI industry is able to help homebuyers overcome one of the biggest hurdles to homeownership: the need for a large cash down payment.

Before you select a low down payment mortgage, it’s important to do some homework. Compare loans and do the math to find what works best for you. You should consider how much cash you need in hand, the monthly mortgage payment, and if that payment will go up or down in the years to come.

In most cases, for example, buying with a 5% down payment versus a 3% results in savings to the monthly mortgage bill due to more attractive loan terms.

So what are the plus and minuses of each loan type:

Conventional Loan with PMI
A conventional loan is a traditional mortgage from a lender that is not insured by a government agency, but rather guaranteed by Fannie Mae or Freddie Mac (“the GSEs”) and—for those borrowers who put down less than 20% of the purchase price, is backed by private capital in the form of PMI.

+ A borrower can get a conventional loan with PMI with as little as 3% down. PMI can be canceled once 20% equity in the home value is reached, which means your monthly bill decreases. In the event that borrowers experience financial hardships, PMI companies have strong incentives to work with the GSEs and others to help borrowers avoid foreclosure, often through loan modifications.

- For some borrowers, a 5% versus 3% down payment may be a better deal as costs may be lower. However, for many prospective homebuyers looking to lock in low interest rates, build equity and home appreciation faster, an option to get into a home with a lower down payment may be better.

FHA Loans
FHA Loans are mortgages insured by the government through the Federal Housing Administration. However, FHA mortgage insurance cannot be canceled and must be paid for the life of the loan. FHA has other specific requirements, like the condition of the home.

+ A borrower can get an FHA Loan with as little as 3.5% percent down and a FICO Score as low as 580 may qualify.

- For almost all loans backed by the FHA, mortgage insurance cannot be canceled, so your monthly bill won’t be reduced the way it is with a conventional loan with PMI. Also, FHA Loans are subject to an upfront fee of 1.75% that is typically financed over the life of the loan. FHA mortgages are subject to more stringent restrictions, especially for condos which are often the desired property type for many first time homebuyers.

A Combo Loan (aka Piggyback Mortgage)
A piggyback involves two separate simultaneous loans, often structured with an 80% first line mortgage, a 10% Second Lien Mortgage, and a 10% down payment (“80-10-10”). Piggybacks are often more expensive than conventional loans because borrowers are paying closing costs on two loans and the second mortgages often carry higher interest rates that are adjustable.

+ The borrower will not pay PMI.

- It may be more expensive as the borrower will pay closing costs on two loans and the second loan often comes with a higher interest rate. This mortgage option typically has more stringent credit score and debt-to-income (DTI_ requirements than a traditional conventional loan with PMI. Borrowers with piggyback mortgages may find it more difficult to receive a loan modification or workout in the event of financial hardship.

For 66 years PMI has helped more than 38 million families of all income levels buy homes without putting 20% down. The best part? It’s only a temporary cost, as PMI cancels after the homeowner builds 20% equity in their mortgage. When the insurance is canceled, the borrower’s monthly payment goes down.

There is a saying, "date the rate, marry the home." Borrowers should always stay within their budget, but those who purchase a home now with a low down payment may be able to refinance later when rates decrease. These borrowers can achieve the American dream of homeownership sooner, start to build equity and avoid some competition from other borrowers who are waiting on rates to drop.

If you're interested in learning more about private MI, visit: www.lowdownpaymentfacts.com to learn more about your homeownership options and make sure to speak with a Real Estate Attorney before moving forward with any contract.