Global Economy Portal
Mortgage Rates: 6.57% (30-Year Fixed); 6.17% (15-Year Fixed); 7.15% (1-Year ARM)
Portal Home - Real Estate - Markets - Politics - Strategy Portal - Terms of Service
Global Economy Portal
What is better? 20% down payment, or 10% down, or zero down? If you have been reading my earlier articles so far, you probably know that I am a strong advocate of putting in a large down payment, so that you have some equity in the house. However, let's indulge in some simple sixth grade math to see if making a large down, as opposed to a small one, serves one well in these times of credit crunches, decimated home prices, and rising mortgage interest rates.
Suppose John bought a home worth $600,000 by paying 20% down. For purposes of this calculation, let us ignore interest rates, real-estate agent commissions, property taxes, earth (quake) / air / fire insurance premiums, etc. Since home prices are declining nationwide, let's assume that down the line, he sells the home for $550,000, since prices are now going down... This is the first scenario. In a second scenario, let's assume Jill buys a house for $600,000 by paying only 10% down; and is later forced to sell it for the same lower price of $550,000 as well. Now let's calculate who comes out ahead.
First scenario:
Initial investment of John = 20% of 600,000 = 120,000 USD
Money owed to the bank = 600,000 - 120,000 = 480,000 USD
House is sold for $550,000.
Money returned to the bank = 480,000 USD (unless you want to be foreclosed, you have to return to the bank what you owe!)
Money left in the pocket = 550,000 - 480,000 = 70,000 USD.
So, John started with an initial investment of $120,000, which is now worth only $70,000.
Net loss = 120,000 - 70,000 = 50,000 USD.
Net loss as a percentage of invested capital = 50,000 ÷ 120,000 = 41.66%
Second Scenario:
Initial investment of Jill = 10% of 600,000 = 60,000 USD
Money owed to the bank = 600,000 - 60,000 = 540,000 USD
House is sold for $550,000.
Money returned to the bank = 540,000 USD.
Money left in the pocket = 550,000 - 540,000 = 10,000 USD.
So, Jill's initial investment of $60,000 is now worth $10,000.
Net loss = 60,000 - 10,000 = 50,000 USD.
Net loss as a percentage of invested capital = 50,000 / 60,000 = 83.33%
To conclude, whereas John incurred only 41.66% loss by putting in 20% down, Jill incurred twice as much, or 83.33% in losses; because she put in only 10% down. In other words, putting in a higher down is good insurance against deep losses in today's declining real-estate markets.
Do you disagree with me? I will be delighted to receive your feedback. Please use the feedback form below for the same. Thank you.
Disclaimer: This is an educational article, which makes certain recommendations regarding home purchase for first-time home buyers, who have been ripped off by everyone from unscrupulous lenders to greedy home-builders / real-estate agents. However, recommendation is not advice. What you invest in is at your own risk. Please read our Terms of Service.
Click here
to read more analyses by the same author on today's housing bubble.
Subscribe Here
Add this article to del.icio.us »
Digg this article »
Email this to friends»
