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31 Jul 2018

Can Personal Loans Be Used for Down Payments?

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In June of 2018, the average median sales price for homes in the United States was $302,100. To purchase a new home, with a 20 percent down payment, you would have to come out of pocket more than $60,000.

Even a down payment of 10 percent is a struggle for most. As a result, if you are like many people, you may wonder about using a personal loan for a down payment.

Options when Trying to Make Your Down Payment

While some people opt to take money from their retirement (which isn’t highly advised), borrow from family members or wait to buy, others don’t want to do this.

Personal loans have been used for smaller purchases in the past, but some people have realized their power and value in purchasing a home.

If you have little to no debt and pretty good credit, you may be able to acquire a personal loan from a lender. You can use the loan to pay for your entire down payment or add to the money from the loan to what you have saved. However, it’s important to understand – taking on additional debt with a mortgage is risky.

After all, you are not only going to be paying the personal loan each month but the mortgage payment, too. Make sure you fully understand what you are getting into before you take out any type of loan.

Here’s what you need to know to make an educated decision regarding if you should take out a personal loan for your mortgage down payment.

Important Information about Personal Loans

A personal loan is considered unsecured debt. This means you don’t have to put up any type of collateral, such as your house or car, to receive the money.

While no collateral is needed, these loans do have a much higher interest rate than the traditional home loan. While this depends on the lender you choose, and your credit history, the interest rate on your personal loan may range from 5.49 percent up to 36 percent.

Compared to a traditional home loan, personal loans have shorter terms, too. Usually, they range from one to five years.

With personal loans, it’s necessary for you to pay your lender interest and principal every month until the balance is paid in full. Since the loan is spread out over a shorter period, you may make higher monthly payments.

It’s important to consider if you can afford this cost, along with your monthly mortgage payment.

How Personal Loans are Viewed by Mortgage Lenders

The majority of home mortgage lenders require buyers to provide a 20 percent down payment. This shows the buyer is committed to the purchase. It’s also necessary for buyers to disclose the source of the down payment they are using.

As a home buyer, the lender may also require you to provide bank statements and records that prove where the money came from.

This is true regardless of if the money is from your savings, personal loan from another bank or lender, or a gift from relatives.

Most lenders prefer the money comes from your own pocket. After all, if you borrow from another lender, it may indicate you are unable to afford to pay the down payment on your own. They may take this as an indication you can’t actually afford to purchase the home.

There is a way around this issue. Prove your income is high enough to cover the down payment loan, as well as the mortgage loan. If you can do this, then the lender probably won’t have an issue with the source of the funds.

Debt-To-Income Ratio and Personal Loans

Another factor considered when purchasing a home is your debt-to-income ratio or DTI. Most lenders want to see a DTI under 43 percent, with under 36 percent being ideal.

The DTI also provides a ratio of your total monthly income compared to your total monthly debt. This includes things such as credit cards, car loans, student loans and housing costs.

If you take out a personal loan, it may affect your DTI. This is because it increases your total debt. If you plan to use the personal loan as your down payment, be sure to calculate and compare the DTI before and after you get the loan.

If the loan increases your DTI so much that you are considered a “risky” borrower, it may be a good idea to borrow less money and continue saving for your down payment.

Higher DTIs may also affect your interest rate and the type of mortgage you can receive. This may wind up costing you more in the long run.

Improve Borrowing Power with a Personal Loan

In some situations, taking out a personal loan can improve your DTI. That’s because you can use the funds from the loan to pay other debt at a lower interest rate. This is possible if you have good credit.

It’s also possible to transfer any revolving credit you have to a personal installment loan. This works to improve your credit score, too.

If you have debt spread across several credit cards, then consolidation is a smart option. Owing one or two lenders is better than owing several different companies.

For those who aren’t comfortable in taking out a personal loan for debt consolidation, consider getting a credit card with a zero percent interest rate. This allows you to transfer your current credit card debt to a new card with a zero percent interest rate for a certain amount of time.

The only caveat with this is that you have to pay your debt off within the introductory period. This usually spans 12 to 18 months.

While you have a longer payoff, term using a personal loan, both options can improve your credit score. They can also help improve your chances of acquiring a mortgage.

Down Payment Seasoning

It’s important that the money you plan to use for your down payment is properly “seasoned.” This means the assets present in your bank account are (at a minimum) 60 days old when you lose.

If you plan to use a personal loan for your down payment, be sure to deposit the funds into your bank as early as possible. It’s fine to deposit the funds into your account in the middle of the home buying process, as long as the loan terms have been disclosed.

Don’t Forget About PMI and Closing Costs

As you can see, using a personal loan for a down payment is a viable option. However, don’t forget you also have to pay closing costs. These are usually three percent of the home’s total purchase price.

You can use a personal loan to cover your down payment and closing costs but be aware of what you are borrowing. Before making the commitment to take on more debt, be sure you have enough income to handle the payments each month.

Make sure to account for the necessary private mortgage insurance. This is usually required if you plan to put less than 20 percent down on your property. The PMI pays the lender if you happen to default on your loan.

Down Payment Help

Before you apply for a personal loan, make sure the lender you are using accepts this. If they say “yes” then shop around to find the best rate.

In many cases, credit unions offer better rates than banks, and there are also third-party lenders to consider.

First-time homebuyers may find additional mortgage assistance through the local or state government. For example, the national programs offered through HUD, along with other charities, make homebuying much more affordable.

Is a Personal Loan for Down Payment Right for You?

Can you get a loan for a downpayment on a house? While the answer is “yes,” this is a viable option, you need to make sure the mortgage lender you use accepts this.

The fact is, a personal loan for down payment can make things easier for you when trying to buy. Be sure to explore this option if you don’t have the cash to cover the total amount.

Personal loans are flexible and competitive, so as long as you have the income to cover the month to month cost, you can reap the benefits offered by a personal loan.

Ready to learn more? If so, visit our blog. We offer a wide array of loan products and can help you get the financing you want for any purchase you plan to make. We offer information on personal loans, as well as other products.