Pros and Cons of Putting 20% Down on Your Mortgage

Are 20% down payments as outdated as 1990s decor? While conventional wisdom used to dictate that a hefty 20% down payment was an absolute prerequisite for aspiring homebuyers, consumers are discovering they have viable alternatives when it comes to financing their dream home.

According to the National Association of Realtors® (NAR) 2022 Profile of Home Buyers and Sellers, the typical down payment for first-time buyers is a mere 6%.¹ That may be welcome news in a market where home prices have soared, which can make that 20% figure seem like an insurmountable barrier to homeownership.² Yet there are many reasons a healthy down payment can be fiscally sound. Let's explore the dynamics of a 20% down payment, along with some tips for how you can get as close as possible.

Benefits of Putting 20% Down on Your Mortgage

Aiming for a 20% down payment has long been considered a wise financial move. Here are some advantages:

1. You can avoid private mortgage insurance

Most lenders require that you purchase private mortgage insurance (PMI) if your down payment is less than 20%. This insurance, which typically runs about 0.5 to 1.5% of your loan amount per year, is designed to protect the lender's investment in your home, signaling your commitment to the purchase.³ Reaching the 20% threshold allows you to eliminate this additional cost, which in turn will reduce your monthly mortgage payments.

2. You may qualify for a lower interest rate

Since you're assuming more of the financial risk, a 20% down payment puts you in a great spot to negotiate with your lender for a more favorable mortgage rate. A lower interest rate can save you thousands of dollars over the life of the loan. Experimenting with a mortgage calculator can show you the effect of various interest rates on your overall cost.

3. You'll have a more manageable monthly payment

A bigger down payment results in a reduced monthly payment because you're borrowing less overall. That might be more important than ever in today's economy, where higher interest rates have ballooned monthly payments, and the inflationary environment has squeezed budgets.⁴ And, as mentioned above, the combination of a better mortgage interest rate and a lack of PMI can make your monthly payment even more attractive.

4. You may have a better chance of winning a coveted property

Despite accelerating real estate prices, many areas are still seeing a tight housing market, with a dwindling supply of homes for sale and a more motivated cadre of buyers. Indicating you intend to put down a higher amount can give you leverage—and showing the seller you're a competitive buyer may make them look more favorably on your offer in the event of a bidding war.

Cons of Saving for a 20% Mortgage Down Payment

While those benefits are certainly attractive, amassing 20% of the purchase price can be a daunting task. Plus, taking the time to achieve a 20% down payment might have some other repercussions on your finances. Consider the following disadvantages:

1. You're delaying the benefits of homeownership

Saving that amount of money can be a slow process, and every month that you devote money to a rent payment is that much less time you're building equity in your own home. In addition, while it's impossible to predict the housing market, property values could rise, meaning you might eventually pay more for the same type of property.

2. It could come at the expense of other financial goals

If you're directing every cent of savings to your down payment fund, you may be neglecting other goals. For example, you might deplete your emergency savings account, which can be an important buffer to protect your finances in case of unexpected expenses. You also might delay retirement contributions, which means those accounts might grow less over time.

3. You're losing liquidity in your finances

Tying up a substantial amount of your savings in a down payment means fewer cash reserves, which can limit your financial flexibility. That means you may be unable to handle other financial commitments or make potentially lucrative investments. It's important to assess the “opportunity cost" inherent in tying up so much of your money in one asset. For example, it's possible you could realize a bigger return by investing in stocks or other assets.

3 tips to Save for a Mortgage Down Payment

While saving the entire 20% may not be feasible, the more you can put down, the better. But with budgets stretched tight, amassing a sizeable down payment might seem out of reach. In fact, in the NAR survey, more than one-quarter of first-time homebuyers said saving for a down payment was the most difficult step in the homebuying process.¹

Fortunately, there are some steps you can take to save as much as possible before you take the homeownership plunge.

1. Scrutinize every expenditure

Take a hard look at your budget to see if there are some places you can cut—recurring charges like subscriptions or gym fees can be low-hanging fruit you might not even miss once they're gone. And make sure you're availing yourself of savings anywhere you can on essentials, from gas to groceries.

To build your nest egg, consider each discretionary expenditure ruthlessly. Put yourself in the shoes of “tomorrow you." Is it worth it to forgo that evening out to sock away $75 into your savings and put you that much closer to your goal? You might be more motivated to save if you keep your eyes on the prize—literally. Turning a dream home image into your screen saver might make you less likely to push the “buy now" button.

And for everyday purchases you do need to make, ensure you're racking up all the perks you deserve by considering a cash-back credit card like the Synchrony Premier World Mastercard®.

2. Make your savings automatic

Paying yourself first ensures the money you've earmarked for savings doesn't end up spent on impulse buys or in other ways. Instead, set up recurring automatic transfers from your checking account to your savings account so that money is out of sight and out of mind.

3. Use the right savings vehicle

When you save for retirement, you typically use investment options designed for the long term, many of which have penalties for early withdrawals. That's why it's a good idea to look for accounts that offer more liquidity for medium-term goals, like saving for a down payment.

But don't sacrifice potential growth by using an ordinary savings account. Today's higher-interest rate environment means that returns are particularly attractive on certain types of accounts. Three to consider:

• • A high-yield savings account lets your deposits grow with competitive interest rates.
• • A money market account helps you save and grow your money and also gives you the flexibility to write checks and withdraw funds from an ATM.
• • A certificate of deposit (CD) account allows you to invest money for a fixed period, using a timetable of your choosing, with the peace of mind that it will earn a guaranteed rate of interest.

Should You Hold Out for a 20% Down Payment?

While the 20% down payment has long been the gold standard, today there are a range of options and programs tailored to accommodate diverse financial circumstances. These can offer an alternative path to a down payment that once seemed out of reach.

However, it's important to realize there may be drawbacks that can impact your long-term finances. Evaluate your situation, and consult with a mortgage advisor to explore alternative down payment program options and discuss the short- and long-term impacts. With a thorough understanding of all the implications, you can make an informed decision that aligns with your financial situation and homeownership goals.

 

Cathie Ericson is an Oregon-based freelance writer who covers personal finance, real estate and education, among other topics. Her work has appeared in a wide range of publications and websites, including U.S. News & World Report, MSN, Business Insider, Yahoo Finance, MarketWatch, Fast Company, Realtor.com and more.

 

READ MORE: Save or Pay Down Your Mortgage?

 

Sources/references

1. Highlights From the Profile of Home Buyers and Sellers. National Association of Realtors. November 3, 2022.

2. Chang, A. How finding a home in America became so absurdly expensive. The Guardian. May 10, 2023.

3. Lucas, T. and Kadzielawski, A. How much is mortgage insurance? PMI cost vs. benefit. The Mortgage Reports. February 16, 2023.

4. Bahney, A. US mortgage rates climb to their highest level since November. CNN. June 1, 2023.