Buy a Home With 3% Down?

Jan 13, 2015 by

Sale pending real estate signEvidently unchastened by a housing value meltdown precipitated in part by lots of people taking out mortgages they couldn’t afford, the government has just made it easier for first-time home buyers to get into a house. Effective last December 14, the Federal Housing Finance Agency now allows some first-time buyers to make just a 3% down payment. That means if a home’s value declines, say, just 4%, the homeowner will be underwater, but never mind that now.

What’s the Federal Housing Finance Agency?

According to its website, the FHFA’s mission is “to ensure the Housing Government-sponsored Enterprises operate in a safe and sound manner so they serve as a reliable source of liquidity and funding for housing finance and community investment.” I’m not sure what that means in the real world, but it sounds important, doesn’t it?

I searched the English-mangled but apparently meaningful (isn’t that what capitalization means?) term Housing Government-sponsored Enterprises from the FHFA’s mission statement. The term refers to Fannie Mae, Freddie Mac, and the Federal Home Loan Banks, all of which are regulated by the FHFA.

Among other things the FHFA seems to run the also grammar-challenged Home Affordable Refinance Program, better known as HARP, which aims to help underwater homeowners refinance their mortgages.

So while one wing of the FHFA is working to help underwater homeowners refinance, another FHFA wing is now making it more likely that some home buyers will also sink below the waves by facilitating the purchase of a home with 97% debt. Am I the only one who finds this curious?

The 3% Down Payment Purchase Option

To get the 3% down deal, you must qualify for a Freddie Mac or Fannie Mae mortgage guarantee. According to Fannie Mae’s website (and to help assure the public that Fannie Mae’s not cruising for a bailout), such loans “will meet Fannie Mae’s usual eligibility requirements, including underwriting, income documentation and risk management standards. These loans will require private mortgage insurance or other risk sharing…”

But you’re a home buyer, not a critic. So what are Fannie Mae’s “usual eligibility requirements”? Well, they’re not easy to learn, I can tell you that! Rather than spending an hour doing Internet searches like I did with the aim of learning whether you qualify for the 3% down payment option, I recommend you visit your friendly neighborhood mortgage lender and ask her.

In the meantime, here are a few tidbits I was able to learn.

To be eligible for a 3% down payment loan:

  • The loan must be for 30 years at a fixed rate
  • The loan must be for a single-unit property
  • The loan must be for a principal residence
  • The borrower must be a first-time home buyer
  • The borrower’s FICO® credit score must be at least 620. (I think. This criterion is especially hard to nail down.)
  • If the borrower has no FICO® credit score, the maximum Debt-to-Income ratio is 36%
  • If the borrower has no FICO® credit score, the income used to qualify the borrower cannot come from self-employment.

Should You Buy a Home If You Can Afford Only a 3% Down Payment?

The government may make it possible, but should you take out a mortgage if you can afford only a 3% down payment?

In general, my answer is NO.

Ideally you want to save up until you can make a large enough down payment—usually 20%—to avoid costly private mortgage insurance (PMI). If you’ll have to save for more years than you can stomach to accumulate a 20% down payment, here’s an idea: buy a less costly house!

20% of $300,000 = $60,000


20% of $150,000 = $30,000

Most people can save $30,000 twice as quickly as they can save $60,000! 🙂

In reality many of us don’t have the patience to save up a 20% down payment. But 3%? That’s just too little. There’s more volatility than that in the appraised value of the home you want to buy. A “comparable” down the street sells below market two weeks after you close and, boom, your mortgage is suddenly underwater.

When your mortgage is underwater, you cannot sell your home unless you’ve got the cash to make up the difference between what someone will pay you for your house and your outstanding mortgage balance. If you don’t have that cash, you’re essentially trapped in your home. You’ll have to pass on opportunities that may come your way but would require a move.

More importantly, if you’re not able to save more than a 3% down payment, that tells me you’re probably going to be struggling to make mortgage payments and keep up with all the other new bills many first time home buyers underestimate. Being “house poor” really sucks, especially if you’re also underwater on your mortgage and can’t sell your house.

Save at Least 10% for a Down Payment

My recommendation is to save at least 10% for a down payment before you buy a home. 20% is better, but if an expanding number of family members means people are threatening violence in your one-bedroom, 650 square foot apartment, 10% is enough.

But do me a kindness: If you feel like you can’t wait the time it’s going to take for you to save 10%, rather than buying with a smaller down payment,  lower your sights a bit, and buy a less expensive home. You can live quite happily without granite and stainless, trust me! Stop worrying about the Joneses, for crissakes, unless they’re going to help pay your retirement expenses! 🙂 And please read my “Can We Afford This?

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