Coming up with a down payment for a house presents the greatest barrier to buying for homeowners and real estate investors alike.
But do you have to put down a down payment on a house when you buy it? Are there creative workarounds that homebuyers and real estate investors can use to minimize the down payment?
It turns out there are ways to minimize down payments, especially for real estate investors. Of course, they have to come up with a far larger down payment than the average homeowner.
Why Is There A Down Payment Requirement For Most Real Estate Loans?
For the lender’s side, down payments are used to hedge against the risk of a non-paying client. It also gives the impression that the clients are capable of managing their finances to meet loan obligations over a long period.
For the borrower, a down payment can affect the overall state of your loan, including interest costs and monthly payments—and, yes, it also reduces risk on the buyer’s side. Higher down payments can lead to lower interests and monthly payments, or even shorter loan times.
How Much of a Down Payment Do I Need?
Homeowners must typically put down 5-20% of the purchase price when buying a house.
While it’s commonly known that 20% is the expected amount, this has changed in recent years, with the average down payment for a home in the US coming in at 14.4%. However, the government does sponsor some loan programs with particularly low down payments.
| Loan Type | House Down Payment Requirement |
|---|---|
| FHA Loan | 3.5% with a credit score of 580 or higher; 10% with a credit score of 500-579 |
| VA Loan | 0% (No down payment required for eligible veterans and service members) |
| USDA Loan | 0% (No down payment required for eligible rural homebuyers) |
| Fannie Mae | At least 3% for HomeReady and standard loan programs for a single-family home |
| Freddie Mac | Similar to Fannie Mae, often starting at 3% for first-time home buyers and those meeting specific criteria |
As we can see, FHA loans require only 3.5% down from borrowers with credit scores over 580. On the conforming side, Fannie Mae offers a 3% down mortgage program, as does Freddie Mac. Military veterans can even score 0% down mortgages from the VA!
Several factors impact the down payment required by your mortgage lender. Your credit history makes a huge impact, so if you have a few dings on it — or haven’t established much credit history — work to repair or build your credit fast. Lenders also look at the stability of your employment and income because they ultimately price and structure loans based on the perceived risk that you will default.
Remember that if you put down less than 20%, you must pay private mortgage insurance (PMI). PMI can add $1,000 or more to your annual mortgage costs, seriously affecting your budget.
Real estate investors, in contrast, must typically come up with a greater down payment. Expect to put down between 15-30%, with strong borrowers generally putting down 20-25% depending on their credit, investing experience, and the lender.
That higher down payment requirement leads some investors to get creative and look for loopholes in using homeowner financing to buy investment properties.
Tips To Minimize The Down Payment On Your House
Let’s go over your options on how to lower the down payment for your next house purchase.
Loophole 1: Occupy the Property for One Year
To qualify for a homeowner mortgage, you must live in the property for at least one year. After a year, you can move out and keep the property as a rental.
This strategy keeps your down payment and interest rate low. Some conventional loan programs require just 3% down! You can compare instant prequalified interest rates and down payments on Credible*.
That said, this strategy has several drawbacks. First, it sets a speed limit of one property per year. If you’re relying on owner-occupied financing, you can’t build your rental portfolio faster than that.
Second, these mortgages all report on your credit. One or two mortgages reporting on your credit can boost your credit score, but five or ten? They can ruin your credit.
Third, most conventional mortgage lenders limit the number of mortgages that can appear on your credit. For many loan programs, that limit is four—after that, you’ll have a hard time getting a mortgage.
Finally, you have to buy the property under your name rather than under an LLC or other legal entity to maintain your privacy as a landlord and avoid personal liability in the event of a lawsuit. If you want to borrow a loan for an LLC, plan to get a proper rental property mortgage from a portfolio lender.
This strategy is how the Hoeflers built their rental portfolio and reached financial independence. It worked especially well for them because they combined it with house hacking.
Loophole 2: House Hack a Multifamily
Another way real estate investors can use homeowner financing to minimize their down payment and interest rate is through house hacking a multifamily property.
While there are many ways to house hack to live for free, the classic model involves buying a small multifamily, moving into one unit, and renting out the others. Take Tim, for example, who house-hacked a duplex. His neighboring renters pay enough to cover his monthly mortgage payment and much of his maintenance and repair costs.
And, like the Hoeflers, you can always move out after a year and buy another multifamily!
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