When you apply for a mortgage to buy a home, expect to pay something up front with a down payment. Your down payment can significantly reduce the amount you owe to the lender, the amount of interest you pay over the life of the loan, and your monthly mortgage payment.

Down payments commonly range from 3% to 20% of the purchase price. The average first-time home buyer pays 6% upfront and obtains a mortgage from a bank or other financial institution for the balance.

Understanding a Down Payment

The size of your down payment depends on your savings, income, and budget for a new home. The amount you designate as a down payment helps a lender determine the loan amount for which you qualify and the type of mortgage that meets your needs. Paying too little upfront will cost you interest over time while putting down too much could deplete your savings or negatively affect your long-term financial health.

How Much House Can You Afford?

Pre-approval

A mortgage pre-approval is an official step where a lender verifies your financial information and credit history. Your mortgage application collects information regarding your estimated down payment amount, income, employment, debts, assets, credit report, and credit score.

When you are preapproved for a mortgage, a lender determines the maximum loan amount you qualify for based on responses in your application. A pre-approval letter from the lender shows sellers that your financial information has been verified and you can afford a mortgage.

Loan-to-Value Ratio

Your down payment plays a role in determining your loan-to-value ratio, or LTV. To calculate the LTV ratio, the loan amount is divided by the fair market value determined by a property appraisal. The larger your down payment, the lower your LTV.

A lower LTV ratio presents less risk to lenders because you are adding more equity to your home and have a higher stake in your property relative to the outstanding loan balance. Since lenders use LTV to price mortgages, a lower LTV means you'll likely pay a lower interest rate on your mortgage. When your LTV ratio exceeds 80%, you’ll likely pay for Private Mortgage Insurance (PMI).

The 28/36 Rule

Rather than simply borrowing the maximum loan amount a lender approves, evaluate your estimated monthly mortgage payment too. Lenders use two ratios to help determine the monthly mortgage amount you can afford. 28% of your gross monthly income is the maximum amount that should be used for housing expenses, including your monthly mortgage payment, homeowners insurance, and property taxes.

The second ratio, 36% of your gross monthly income, is your debt-to-income ratio calculation. This value pays the total sum of your debts, including your mortgage. This is the maximum amount of your gross monthly income for recurring debt payments and includes bills in the 28% for housing expenses plus additional expenses like credit cards, car loans, and student loans.

Small Down Payments vs. Large Down Payments

Many homebuyers, especially first-time buyers, don’t have a 20% down payment. In February 2023, the median existing-home price was $363,000, so an upfront payment of 20% is a hefty $72,600. Per rules set by government-sponsored entities Fannie Mae and Freddie Mac, the minimum down payment is 3% for conventional home loans. For FHA loans that help low- to moderate-income families attain homeownership, the minimum is 3.5%.

Homebuyers that can afford to make a larger down payment reap benefits that may include:

• Lower monthly mortgage payments
• Lower interest paid over the lifetime of the loan
• Initial home equity to draw on if you need to access it through a home equity loan or HELOC
• Qualifying for a lower interest rate on your mortgage
• PMI mortgage insurance is not required with a 20% down payment
  

Conventional Loans

Fannie Mae and Freddie Mac Programs (3% Down)

Fannie Mae’s HomeReady mortgage program allows a 97% LTV ratio for credit-worthy borrowers.Freddie Mac’s Home Possible Advantage mortgage also offers a 97% LTV ratio for borrowers but requires a minimum credit score of 660 to qualify. The program will even consider some borrowers with no credit score by building a non-traditional credit report as long as those borrowers meet certain debt-to-income and loan-to-value ratio guidelines.

Individual Lender Programs (1% to 3% Down)

Many lenders offer Fannie Mae and Freddie Mac’s programs and add their down payment assistance benefit for a conventional loan. For example, Wells Fargo’s Dream. Plan. Home. mortgage allows for a 3% down payment for borrowers at or above 80% of area median income requirements.

Jumbo Loans (10% to 20% Down)

Jumbo loans are the most common non-conforming conventional loan available to homebuyers. Lenders have varying qualifying guidelines for jumbo loans, which exceed a conforming loan limit set by the federal government.

Because jumbo borrowers present more risk for a lender, expect to put down 10% to 20% of the purchase price. Borrowers with credit scores of 700 or higher tend to get the best pricing, but some lenders will work with jumbo borrowers with a minimum score of 660.

Government-Insured Loans

FHA Loans (3.5% down)

You can put as little as 3.5% down with a Federal Housing Administration FHA loan. FHA-approved lenders also will consider borrowers with non-traditional credit histories as long as you’ve had on-time rent payments in the past 12 months, no more than one 30-day late payment to other creditors, and you haven’t had any collection actions filed in the last 12 months. The property you’re buying must comply with standards set by the U.S. Department of Housing and Urban Development for single-family and condo homes and be within FHA loan limits.

VA Loans (0% down)

U.S. military service personnel, veterans, and their families can qualify for zero-down loans backed by the U.S. Department of Veteran Affairs. Other benefits include a cap on closing costs (which may be paid by the seller), no broker fees, and no MIP. VA loans require a “funding fee,” a percentage of the loan amount that helps offset the cost to taxpayers. The funding fee varies depending on your military service category and loan amount.

USDA Loans (0% down)

The U.S. Department of Agriculture guarantees loans to help make homeownership possible for low-income buyers in rural areas nationwide. These loans require no money down for qualified borrowers for properties that meet USDA’s eligibility rules.

The Bottom Line

Your down payment on a home purchase impacts your mortgage type, the amount of your loan, and the loan's terms and conditions. A larger down payment will give you a lower loan-to-value ratio, or LTV, may qualify for a lower interest rate, and not require PMI. Down payments commonly range from 3% to 20% of the purchase price.