|You know you make enough money to afford a monthly mortgage payment. Your credit is strong, too, so you’re not worried about getting hit with a high interest rate.But you do have one concern: You’re not sure you have enough money in your bank accounts to cover the down payment and closing costs that go with financing a home purchase.
It’s a legitimate concern. Fortunately, there are some estimates you can use as a guide.
Start with the down payment. This is the biggest upfront cost of buying a home. If you are taking out a loan insured by the Federal Housing Administration, and your FICO credit score is at least 580, you’ll need a down payment of at least 3.5% of your home’s final purchase price. For a home costing $150,000, that comes out to $5,250.
If you’re going with a conventional mortgage loan—one not insured by the federal government—you’ll usually need a down payment of 5% to 20% of your home’s purchase price. For a home costing $180,000, that comes to $9,000 to $36,000.
That’s a lot of money, and it’s why many homebuyers save for years before finally buying a home. You can, though, rely on gifts from family members to help cover your down payment. Whoever is gifting you funds must write a letter stating that the down payment funds are actually a gift that do not have to be paid back. If they don’t provide this letter, your lender will consider the down payment funds they give you to be a loan that you have to pay back—and this can reduce your borrowing power.
Closing costs are another major expense involved in closing a mortgage loan. These are the fees that lenders and third-party providers, such as title insurers or real estate attorneys, charge for the work they put in to originate and close your loan.
Closing costs vary according to lender, but in Bankrate’s 2015 survey of closing costs, the financial website found that the average homebuyer spent $1,847 in mortgage closing costs. However, it’s important to note that what you actually pay may differ. Bankrate’s study didn’t include fees such as title insurance, title search, property taxes and other associated costs.
Earnest Money Deposit
You’ll need funds, too, to pay for an earnest money deposit. This is the payment you provide to sellers after they accept your signed purchase offer for their home and both you and they sign a sales contract. The earnest money is evidence that you are serious about buying the home.
The good news? Your earnest money deposit is usually included as part of your down payment if the home sale actually closes. How much earnest money you’ll need varies widely. Some sellers will accept earnest money deposits of as little as $200. Others might want a deposit of as much as 1.5% of the home’s final sales price. For a $140,000 home, that comes out to $2,100. Your real estate pro can advise you on local expectations.
Finally, most mortgage lenders will require that you have at least two months of reserves in your bank accounts. These are funds that you have saved that you won’t be using on down payment or closing costs, but that you can use to pay for your estimated new monthly mortgage payment.
Say your estimated mortgage payment comes out to $1,200 a month. If your lender requires that you have at least two months of reserves saved up, you’d need another $2,400 in your bank accounts.
This isn’t as rigid of a rule. If your credit score is high, say 740 or more on the FICO credit scale, your lender might not require any reserves at all. That’s because your lender will have more confidence that you’ll pay your mortgage on time, even without extra money reserved.