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The typical down payment for a home is around 20 percent of the property’s purchase price. This means that if a property is worth $200,000, the down payment will typically cost $40,000. Unfortunately for most buyers, this figure is way beyond what most people can save for and give as a cash payment. Some people get round this obstacle by getting a second loan to pay the down payment, but not all lenders approve this and in any case this practice comes with problems of its own. What problems? Well if you have to take out two loans to pay for a mortgage and the down payment you could easily overstretch your household finances and default on one of the loans. Defaulting on a mortgage or down payment loan is very dangerous because they both use your home as collateral. This is a fancy way of saying that if you do not make the payments you will be forced to sell your home to pay your debts. Don’t think you have to miss too many payments for a lender to start the foreclosure process. If you do not show signs of repaying just one or two payments banks can start filing for foreclosure. Even if you manage to come up with the late payments, you will also be charged penalties and extra interest payments to compensate the lender. Enough said, large down payments are a financial hazard for homeowners.
Ok, but what alternative do I have? I don’t have the cash to pay a 20 percent down payment, so what am I expected to do except find a second lender? Welcome to low down payment mortgages. Yes, if you know where to look and who to ask you can find lenders who agree to sell you a mortgage with a down payment of only 3 to 5 percent. These mortgages are quite naturally called low down payment mortgages.
Why do lenders offer such low down payment deals? As you probably expected, it is not out of the goodness of their heart or because they want to help you out. Lenders who accept low down payments do so because they find a way of protecting their investment using a special mortgage lending tool: mortgage insurance.
Mortgage Insurance is a confusing term for many borrowers. Generally when you buy an insurance policy, the buyer is protecting himself from the potential loss of the insured property. However, in the case of mortgage insurance, the insurance buyer is not covering himself or herself but the lender. That means that if the lender cannot pay for the loan, the mortgage insurance will absorb the loss incurred by the lender. In other words, mortgage insurance protects lenders from the financial loss of a homeowners who stops paying his mortgage. This sharing of the lender’s risk between financial institutions and the mortgage insurance provider allows lenders to drop the interest rate they can offer their customers.
How can you apply for mortgage insurance? There are two main methods, which we will discuss in our next article.
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