You might say we were pretty hardcore when it came to paying off our student debt. We lived extremely frugally, made significant sacrifices, and worked hard to pay off that debt in a hurry.
With such an extreme approach to debt payoff, many were surprised that we bought a house so soon after becoming debt-free. Particularly, readers were surprised that we purchased a home without having 20% down.
Anyone who knows anything about buying a house knows that without a 20% down payment you have to pay private mortgage insurance (PMI). Understandably, your lender is taking a bigger risk when you don’t have much invested in the house yourself.
When we bought our first house we made a 20% down payment and got a 15-year mortgage. That was a fantastic financial move, and we would have loved to replicate it this time around, but for several reasons, we chose to buy with just 5% down instead. In order of least to greatest importance, here are many of the factors that influenced our decision.
Impatience
I’ll be the first to admit that we were a little impatient to find our own place after living in my in-laws basement for nearly 4.5 years. That’s not to say that we didn’t enjoy and appreciate our time there, just that we were ready to move on.
However, my husband and I are both careful decision-makers. We wouldn’t make a huge decision like buying a house (aka becoming six figures under again) just because we were feeling impatient.
Time
Along the lines of impatience, houses in California are expensive. While saving up a 20% down payment is entirely possible, it would take a long time. At a purchase price in our range of about $400,000, our down payment would have been $80,000. That’s not too far from the total cost of our home in the Midwest!
We figured that if we stayed in the basement with the same frugal lifestyle of our debt repayment and kept our side gigs going strong, we could save a 20% down payment in just under two years.
Obviously we’ve done hard things before and we’ll do them again, but neither of us wanted to take on another extreme financial goal. Paying off all that debt in a hurry was a little exhausting! Two years more sounded overwhelming.
Low PMI
One of the main reasons for putting at least 20% down on a house is to avoid having a mortgage insurance payment tacked onto what you’re already paying in principal and interest. As it turned out, PMI wasn’t as ridiculous as we thought it might be, thanks to our credit scores.
We pay $123 per month in PMI. This is, of course, still real money, but for us it’s worth it.
Side note: Because we got a conventional loan, we will be able to get rid of PMI once we reach 20% equity in the home. Had we gotten an FHA loan we would have to refinance in order to stop paying PMI, which would also leave us at the mercy of whatever the current rates might be (see why we chose a conventional loan over FHA and USDA).
Interest Rates
Mortgage rates were beautifully low in 2016. They really couldn’t get much lower. At the beginning of 2017, after the presidential inauguration, rates were expected to increase.
Waiting a couple of years to buy would leave a lot of room for rate changes. It’s possible that in two years rates could be lower (or similar), but they could also be much higher. Hopefully we never see 18% mortgages again, like in the 1980s, but there was a lot of uncertainty about how much the new presidency and the world economy could increase rates. The only thing we were sure of was that the rates at the end of 2016 were some of the lowest we had seen in decades. Whatever happened in the future, we could be comfortable with the rate that we locked in when we made an offer on our house.
Let me give a numerical example of the effect the interest rate can have (using nice round numbers that are similar to our real numbers):
On a $400,000 house with 5% down (a loan amount of $380,000) and a 4.25% interest rate, we would have a monthly mortgage payment of $1,869 and a total cost of $672,974 over the life of the loan.
If we lived super frugally and saved up 20% down, but the interest rate went up 1.5%, the scenario would look like this:
On a $400,000 house with 20% down (a loan of $320,000) and a 5.75% interest rate, we would have a monthly payment $1,867 and a total cost of $672,276.
We can’t see the future and don’t know what interest rates will look like in two or three years, but seeing that an increase of 1.5% in the interest rate results in the same monthly payment and total loan cost (even after paying 20% down) is sobering. If the rate were to increase more than 1.5% during the time we were saving our larger down payment, our mortgage payment would actually be larger than it is now with just 5% down!
Finding the right house
While we were actively looking for a house, we weren’t sure we would find one that fit what we were looking for that was in both the price range and location we wanted. Getting the house, property, price, and location to all fall in our desired range seemed an impossible task.
When we did find it, it wasn’t at all how we had expected.
The house had come up in our online search months before, but the pictures were less than impressive (actually, awful) and there were some immediate turnoffs. We had essentially crossed the house off our list. Then one Saturday morning, when we had promised the kids we would go look at potential houses, an appointment with our realtor fell through. We quickly searched for something we could go look at, since the kids were primed. They had even made up little forms they could fill out that listed the things they liked and disliked about the house and property. Without many other options, we decided to attend an open house for the place that would become our home.
As it turned out we loved the house! The unstaged pictures in bad lighting were not an accurate reflection of the home’s potential. Anything that was a turnoff online was easily overlooked in person. The house, property, price and location were all great. Our home inspector even commented on our great find. As a bonus, the price had been significantly reduced when poor marketing by the realtor resulted in a general lack of interest (like our initially crossing it off our list.) For many reasons, we decided it was a house that we could love, something we hadn’t seen much of in our price, size, condition, and location requirements.
In the end
While we definitely see the value in making a 20% down payment, this time our situation worked out differently. It’s possible that a few years down the road we look back at and see that interest rates haven’t gone up, home prices have gone down, and waiting would have increased the economic efficiency of our home purchase. That’s okay. As I explained above, only some of our reasons were financial.
In the end we are happy (ecstatic!) with our house, payment and all. Whether it was the best financial move only time will tell.
Still, we’re planning to pay down the principal sooner than the normal schedule outlines so that we can get rid of the PMI (and hurry along the life of the loan). We’ll keep you updated on our progress!
How about you?
- Did you buy a home with less than 20% down? What was your reasoning?
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I know this post is old but I thought I’d comment to bring some new light to it given the current climate. I signed up with this program called naca that has no PMI or down payment or closing costs. I was renting and really working hard to save 20% but felt like wasting money in rent made less than proceeding.
*less financial sense. Their rates are around 2.6 now and even though we’re going through a pandemic, houses are flying off of the market. I think investors are really taking advantage of the rates but it just made sense for me to a well. That way, I can also free up some capital as I’ve started a real estate investment business as well.
Your reasons make total sense! We recently paid off our debt and have begun saving for a home. Your calculations have given me something to think about, for sure! I can relate to being a bit impatient, too. After working toward being debt free for so long, I don’t really want to be saving for years!!
Thanks for sharing! I always love following your story. We live outside of DC and bought a house (townhouse) with 5% down as well for the same reasonings. We really wanted to save 20%, but rates and home prices were good. We estimated another 60k would take us 3-4 years. A year later and we are more confident in our decision. Two same model homes sold this year $22k more and the interest rate is .5% higher. We’re paying extra and hoping to ditch our $98/mo PMI.
I just want to say I am SO glad I discovered this site! So many frugal living sites don’t get HOW frugal I am looking for (especially with groceries!), so I really appreciate your wisdom! I love this post on home buying. for us right now, this has seemed like an unattainable goal, but this really helps me realize with dedicated saving we can secure a home in the nearish future. Thanks!
We put 10% down on the house we just bought and as a bonus, it appraised much higher than the buying price, so we were able to refinance and actually get rid of PMI a few weeks after closing! The housing market in our area is booming like crazy. Houses are selling in a matter of hours and often before they’re even in the system! It’s pretty nuts!
That is crazy awesome Sara! Sounds like you guys bought and built at the right time in the right place! Very cool! Congrats!
Your home-buying experience came just in time for us to gain some wisdom from you! We are hoping to buy a home later on this year, and we are thinking conventional rather than FHA as we had originally considered. We would love a post about ways to save money in the home-buying process!
That’s exciting that you’re hoping to buy a house later this year! I’m glad the post was helpful. I’ll see what I can put together about saving money in the home-buying process! 🙂
When I bought my home 18 yrs ago I only put 10% down and had PMI. I paid down the principal quickly to erase PMI. I am lucky enough to live in the mid west and housing prices are very low. I have 9 years left to pay off my mortgage at the age of 55. Like others it will be my biggest expense to get rid of. Was very blessed to buy at a 3.25% interest rate.
We put about 6% down on our home, the reason being we were living on a low income with kids at home and the likelihood of saving 20% before our early fifties was very slim. Also, we really wanted to get out of a place that was in poor shape, into a decent home. We refinanced after five years to a lower interest rate and shorter term (from 30 years to 15) when my husband got a better job, then put extra money down on the loan as often as we could, and always paid at least something extra on principle. We paid off our home early, and it’s been a blessing, because my husband can no longer work, so paying a mortgage would be killing us right now.
I admit I was curious as to why you went ahead without 20% down, but your reasoning is clear to me now, and I should have known it would have made financial sense as well as emotional sense to go ahead. The section on the interest rates really surprised me. I had never thought it out that way.
When we purchased our first home, we put 10% down. Our mortgage officer at the credit union was so wonderful to work with and helped us figure out which loan option was right for us. We looked at the difference between getting a 90% loan and paying PMI versus getting an 80% mortgage and a 10% 2nd mortgage. The interest rate on the 2nd mortgage was higher, but this allowed us to build equity more quickly and the out of pocket costs were roughly the same. We ended up refinancing 3 years later to a significantly lower interest rate and got rid of the 2nd mortgage. It ended up being a good decision, though we purchased that home in 2006 so I don’t know if that kind of financing is available any more.
On my first home we did a FHA loan. We didn’t have twenty percent either but so we had PMI as well. Honestly, it always bugs me when debt blogs recommend only having 20% down. Then I find out where the location that they’re operating out of makes it incredibly possible because of the low cost of housing. I live in San Diego so like most places on the coast of California, houses are pricey here. The price of rent is out of control here too. To me it made more sense (cents) to be paying down a home that was mine vs throwing thousands of dollars away to rent each month. You did the right thing.
When I read that you guys bought a new house, I was wondering why you didn’t wait to save up for the 20% down payment. Now I have the answer. Congrats on the house and thanks for sharing! 🙂
We did an FHA. It was before the rule change, so we’ll be able to drop the mortgage insurance when we reach 78%. We weren’t planning on buying, but the situation was an offer we couldn’t pass up.
That’s so nice that you’ll be able to get rid of PMI!
We paid cash for the home we live in. For the investment property we’re in the process of purchasing, we paid a 10% deposit on the day and will pay a further 10% deposit to the lender and finance the rest. Putting down a smaller deposit and paying PMI was never going to happen, but then, we have enough money to just pay cash for this property (just not enough to pay cash for the property, plus pay for the few renovations are needed, plus eat! Paying cash for the investment property would literally wipe out our savings.) When we ran the numbers we worked out that we’d be about $200,000 better off by taking out an 80% mortgage as opposed to moving that money out of ETFs and taking a much smaller loan. In part this is because we’re making a healthy return with the ETFs and we’d be forfeiting that if we moved the money out of there to pay for the house, in part this is because of tax savings for interest payments for investment properties, and in part this is because this is because the mortgage will be small enough that the rent will cover mortgage payments for us (and we’ll still have a healthy cushion for those times when the house is empty.)
That sounds like you guys made a smart move Becca! That’s perfect that the rent covers the mortgage and you won’t have to move around your money that’s making money! And you’ve got lots of renovation experience under your belt already!
Great call with running the numbers to see how interest rate hikes might affect you. On the flip side, if rates fall for some unlikely reason in a few years, you can always refinance to a shorter loan term and lower interest rate potentially down the road. We bought our first home during 2010 in the heart of the recession and started with a 30 year mortgage, 10 percent down and a rate of 4.25 percent. We paid PMI of about $100 a month for a bit as well, but we figured home prices were just so low in our area given what we were used to seeing growing up that we could not pass up an opportunity to buy in a coveted school district in suburban Chicago. Our home did indeed appreciate in value and we were able to get rid of PMI about two years later. What more, as we made more income and watched interest rates continue to plummet, we realized in 2013 that we could refinance into a 15 year mortgage at 2.875 and only pay $300 more a month. We are 11 years 4 months away from true ownership and wouldn’t change a thing.
That’s great! Having a 15 year mortgage is awesome!
I love that you did the calculation for the 1.5% rate increase….that really opened my eyes! Thanks for pointing out what a huge difference such a small rate difference can make. We are in the market to move in a few short years from our rental property and I will definitely be doing similar calculations when the time comes for us.
I was shocked at the huge difference the rate change makes too!
I think it makes total sense to do what you did. We have a hard time being in our basement even for a few hours because of the lack of natural light – I can totally understand why you guys would want to move!
If I were Stephanie, I’d probably do the same thing. Nothing wrong with the basement. But her math tells me it might end up being a great decision!
I am totally loving the natural light in our new house! It makes a world of difference!