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Investment Planning |
Finding Cash for a Down Payment
If you're shopping for your first home, or trading up to a larger or more desirable home, you may experience sticker shock. In addition to coming up with a down payment--generally 20 percent of the purchase price--you must pay closing costs and property taxes. There are several sources you can draw from to come up with a down payment, while still covering your near-term living expense needs and long-term investments.
Cash will be the first asset you tap. This includes checking, savings, and money market accounts. It's quick and easy to access; however, you must remember to protect your short-term cash reserves. Keep three to six months living expenses (including mortgage payments and taxes) in a reserve for emergencies, in case you were to lose your job or have unexpected expenses. The cash reserve also protects you from being forced to use a high-interest credit card for emergencies, as the interest on personal loans, unlike with your home loan, is not tax-deductible.
Most lenders require a 20 percent down payment before they'll grant you a home loan. What should you do if you don't have the cash equal to a 20 percent down payment? Consider these options:
- Loans or gifts from relatives - gifts of $11,000 per year can be given tax-free. If your parents each give you $11,000, you've got an additional $22,000 for the down payment. Beware of any strings that may be attached to a loan, either financially or emotionally.
- Second mortgage - a second mortgage is often used to fund 10% of the purchase price, or 50% of the down payment. Downsides to this option are that these loans are expensive, and you'll be required to buy private mortgage insurance if you put less than 20% down on the home.
- Home equity line of credit - this type of loan will be less expensive than a second mortgage, and you won't be required to buy additional insurance. A home equity line of credit is usually a better choice than a second mortgage.
- Liquidate stock -- The downside is that you may be liquidating during a market downturn, thus capturing less value than if you had sold when the market was up. If you plan to liquidate stock for a home purchase in the future, begin to liquidate now the amount you expect to need within the next two to three years. Don't forget to include the taxes due on any capital gains from the resulting sale of stock or mutual funds when calculating how much you need to sell. For any cash you may have on the sidelines, don't invest in the stock market unless you have at least five years before your need for the cash for your down payment.
Tips Disclaimer
These tips contain information that may change over time as a result of new tax legislation. Although we make efforts to keep this information current, you should check with your tax advisor before taking action based upon any information contained in these tips.