Can You Use a Personal Loan for a Down Payment?

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How to Get Money for a Down Payment

According to Zillow the median price of a home in the U.S. has nudged past $325,000 and is still rising. More and more people hoping to become house owners have to face the stumbling block of raising the money for a down payment. The magic number often quoted is 20% because that will significantly lower your monthly mortgage payments, but 20% down is an unrealistic figure nowadays for first-time buyers.

Some mortgage companies now accept as little as a 3% down payment, but even that figure means you have to scrape together nearly $10,000, and that certainly isn’t a given. It can be frustrating if you know you could afford the mortgage payments but can’t find the money for the down payment. So what are your options? Can you take out a personal loan?

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Can You Use a Personal Loan for a Down Payment?

In the majority of cases, it is not possible to use a personal loan as the down payment on a house because most mortgage lenders won’t allow it. Both FHA mortgages and conventional lenders forbid borrowers from using a personal loan to finance the down payment of the property.

Even if you do find a mortgage provider who doesn’t specifically prohibit the use of a personal loan for the down payment it is probably far from your best option.

Apart from the fact that most lenders won’t accept a personal loan as a down payment, there are several reasons why you shouldn’t try to borrow the money for a down payment. In fact, you shouldn’t take out a personal loan for any purpose just before you apply for a mortgage.

When you make a mortgage application the lender will make a forensic investigation into your financial situation. A major factor in their decision-making process is your debt-to-income ratio – what percentage of your income is used to service your debt repayments. Many mortgage companies require this to be 36% or less and there are very few indeed who would give a mortgage to anyone with a DTI of 43% or above.

The repayments required by a personal loan will certainly increase your DTI and may even take it above the minimum figure required by your proposed lender. Even if your revised DTI is below their threshold, taking out a personal loan may raise questions about your financial ability to cope with the mortgage payments. Either way, it is unlikely they will lend you the money you need for your new home.

Lenders want to see that you are financially sound, can make the down payment, and have no problems meeting the monthly mortgage payments.

Is it a good idea to borrow money for a home down payment?

Using a personal loan to provide the cash for a down payment is rarely a good plan, even if you find a lender that allows it. Although a personal loan can be a useful financial tool in some circumstances it should not be used to supply money for a down payment. Here’s why:

  • Most mortgage providers, including the FHA, won’t allow it.
  • Paying a mortgage every month will add to your outgoings and finding the money for personal loan repayment will only add to that financial burden.
  • Taking out a personal loan will require a hard credit check and lower your credit score, at least in the short term. You want that credit score to be as high as possible when applying for a mortgage.
  • A personal loan is not a cheap way of borrowing money, certainly not compared to most mortgage rates.
  • Although finding 20% of a home’s selling price may be beyond you some lenders will accept as little as 3%, which is a much more realistic figure to get together, depending on where you intend to buy.

What to consider if you decide to use a personal loan for a down payment

If after these warnings you still decide to go the personal loan route to finding the money for a down payment here are some points you must consider:

  • Carefully search the market and find the best loan available. You want a low APR and a generous term.
  • Your credit score matters. Although there are lenders that will offer loans to those with less than perfect credit, the best deals go with high credit scores.
  • Look out for fees and penalties. There will usually be an origination fee of between 1% and 8% of the loan amount and some lenders will penalize you if you pay off the loan early.
  • Make certain the repayments are reasonable and within your budget. Don’t forget you are already taking on the monthly mortgage payments.

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Can I get a mortgage without a down payment?

If you are determined to become a homeowner but don’t have savings to provide the down payment there are some options that may help you.

  • Find out if you qualify for a mortgage that requires a small down payment. FHA loans only ask for 3.5% down and both USDA and VA mortgages need no down payment at all.
  • There are various assistance programs designed to help people finance a home purchase. The U.S. Department of Housing and Urban Development (HUD) has a web page dedicated to helping people search for these programs on a state-by-state basis. The National Homebuyers Fund is another organization that may be able to help.
  • You may be able to borrow the down payment money from a family member or close friend. If you do know someone who is prepared to lend you the money make sure you both know what’s involved to avoid later problems.
  • Wait until you are in a position to supply the down payment yourself. Work out a budget so that you can regularly save and add any windfalls you receive to the pot. You may be surprised by how quickly your savings will grow.

How to find a personal loan for a down payment

If you decide that a personal loan is your best option you need to study the market and find the best offer for you.

  • Compare rates and make certain you can afford the repayments.
  • Find out what fees, if any, are involved.
  • Choose a loan that has a term that suits your needs. The longer it is, the lower the monthly repayments but the more expensive it is in the long term.
  • Make sure your credit score meets the minimum required by the lender.
  • Avoid loans that penalize early repayment.
  • If you have taken out a loan before, some lenders offer discounts for previous customers.

Best personal loans

Among the best lenders for a personal loan are:

  • Marcus by Goldman Sachs will lend up to $40,000 for 3 to 6 years.
  • Best egg offers personal loans of up to $50,000 for 2-5 year terms.
  • Prosper has 3 or 5-year terms for loans of up to $40,000
  • DISCOVER can lend a maximum of $35,000 over 3 to 7 years.
  • PenFed can provide up to $50,000 for between 1-5 years.

Compare and apply

If your mortgage company will allow it and you decide a personal loan is the way you want to get the funds for a down payment then it is time to compare rates and apply. Make sure you have the documents you need to hand and complete the application. Most lenders have streamlined the process and make the approval decision quickly with funding in just a day or two, so start your search by exploring the loans in our tables now.

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