The True Cost of Low Down Payments

To obtain that low-down-payment loan, you'll pay the lender yearly interest on that extra $15,000 ($95,000 less $80,000), plus you'll pay the annual premium for the PMI. Recall (Secret #60), mortgage insurers risk-adjust their premiums according to your credit profile and other Cs. In addition, rate and premium schedules change as insurer loss experience hits peaks and valleys. Consequently, you can't apply the results shown in Table 6.1 to your situation. You can, though, apply this technique to calculate the real cost of your low down payment.

For that extra $15,000 (i.e., 5 percent down versus 20 percent down), your interest and mortgage insurance costs total $2,475, or 16.5 percent. In today's market, that's a high cost of funds. But I've seen low-down loans where the effective cost goes above 20 percent. Before you jump for a low-down-payment loan with PMI (FHA's MIP) calculate the cost of that marginal amount of money you're borrowing in excess of an 80 percent LTV; then compare the cost (the effective rate) to the cost of raising money through a second mortgage or family loan. Even more costly, some lenders charge low down payment borrowers a higher interest rate and higher fees.

Without a doubt, PMI has helped millions of homebuyers. Just remember, that help comes at a pretty stiff cost.

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