Should I Put 20% Down, or 5% and Invest the Rest?

You’ve been a stellar saver and have enough to put 20% down on a house.

But you wonder if that’s the best idea. Is it better to hang onto that money? Would it be better to invest?

Here’s how the numbers might pencil out.

Make a Large Down Payment or Invest?

First, our assumptions:

• Home price: $400,000

• Down payment options: 5% with PMI and 20% with no PMI

• 30-year fixed conventional loan

• Mortgage rate of 7%

• Return on investments: 5% compounded annually

• Time horizons: 10 years, 30 years

• 3% annual home appreciation

• Mortgage payment difference invested monthly

• 740 credit score

*Investor.gov compound interest calculator.

What Does the Example Show?

You would have a $40,000 higher net worth and have paid $60,000 less in finance costs over 10 years by putting 20% down. This considers your home equity and investment balance.

Most people stay in a home for 13.2 years on average, says the National Association of Realtors. They keep mortgages for even less time.

So it makes sense to look at a 10-year time horizon for such comparisons. If you continue this pattern for 30 years, your investment balance grows even larger.

The example assumes you put money you save on the mortgage payment into the market each month. In this case, your mortgage payment is $570 less by putting 20% down instead of 5%.

However, many assumptions and variables could change over a 10-year and 30-year time horizon.

Variables Can Change Your Results

Mortgage Rates

The primary reason you come out ahead by putting more down is today’s interest rates.

When interest rates were 3%, you’d likely come out ahead putting less money down and investing in the market where you could likely gain 5% per year.

But at 7% interest rates, you’re losing money unless you can make more than 7% annually in the stock market over 10 years.

Investment Returns

The S&P 500 has averaged more than a 10% return over the past 100 years – a great track record. But your performance will depend on which 10 years you’re invested. You could easily have a lower return. You can also upend your returns by not investing monthly mortgage savings.

Home and Mortgage Tenure

If everyone stayed in their homes and kept their mortgages for 30 years, this type of analysis would be easy. But if you sell or refinance in three to five years as is common, it changes your results.

Home Appreciation

The home appreciates the same with any size mortgage. However, your home equity after 10 years will vary based on the overall housing market.

Taxes

You would likely receive a bigger tax break by taking a bigger mortgage – you would pay more mortgage interest. But your investment returns could add to your tax liability. Your tax bracket and whether you itemize deductions will affect your final outcome.

Another Consideration: Personal Risk

Banks would have you believe that putting more money down is less risky, but the opposite is true.

For the homebuyer, putting more down is riskier because you have a smaller emergency fund for a job loss or financial emergency.

Using the above example, you have $60,000 less in investments from which to draw in an emergency. Had you put 5% down, you could have liquidated investments or borrowed against them. You lose the home – plus that massive down payment – if you can’t make the payments.

Put 5-10% down unless you have large reserves after the 20% down payment and closing costs.

What About PMI?

Many people don’t like the idea of PMI. It protects the lender, but you pay for it.

But it’s a great value. In our example, you invest $60,000 and keep your liquidity for $170 per month.

Those who have not yet saved 20% down can buy a home years earlier. A couple hundred dollars per month is a small price to capture today’s home prices. In five years, a 20% down payment could be much larger.

You can cancel PMI on a conventional loan when you reach 22% equity, or less in some cases, even without a refinance.

PMI is not that different from mortgage interest:

• PMI is a cost to buy with less than 20% down

• Mortgage interest is a cost to buy with less than 100% down

Should You Make a Bigger Down Payment or Invest?

Down payments and investment strategies should be examined with a licensed financial advisor, tax professional, and other experts. This article isn’t investment advice, just a review of a question that many homebuyers face.

You might find that it makes more sense to make a smaller down payment and keep your savings intact.

Get a quote for your mortgage to start your analysis.