Determining Amount Of Down Payment

Added March 20, 2009 by Ilyce R. Glink

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Summary: To avoid PMI, or private mortgage insurance, you’ll need to make a down payment of 20 percent of a home purchase. If you’ve already avoided paying PMI, is it worth it to make a down payment more than 20 percent? Determining the best amount for your down payment means figuring out what the best investment would be.

Q: The proceeds from the sale of our previous home are more than the 20 percent we were going to put down on our new home to avoid paying private mortgage insurance (PMI). Is it better to put all the proceeds down on the new loan or just the required 20 percent?

A: You're in the fortunate position of getting to decide where your money is best spent. The 20 percent threshold is important because that's the PMI "line in the sand." If you put down 20 percent, you don't have to get private mortgage insurance, which is expensive and is not deductible.

Should you put down more than that? It depends on whether you have a better place for the cash. I'd certainly leave some money in an emergency fund. You want to make sure you're not digging around for cash when you need it most.

On the other hand, if you put down more than 20 percent, you could ask your mortgage lender for a free equity line of credit against your house. Then, if you need it, you can tap into it.

Do you have an investment in mind that's likely to appreciate faster than the amount you're spending on the mortgage? If you borrow an extra $50,000 at 6.5 percent, your investment will have to earn close to 10 percent to break even after taxes (assuming you do not itemize on your federal income tax return). I don't know many investments that do that too often these days.

Take some time to consider what you cash needs might be going forward (college tuition, retirement, home improvement projects, medical needs, etc). Then, think about investment opportunities you have (either in stocks, bonds, or other real estate investments) and make a decision.

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