Can You Put 5% Down on a Conventional Loan?

It is possible to secure a conventional loan with a down payment as low as 5%. This option makes homeownership more accessible for individuals who may not have accumulated a substantial amount for a larger upfront payment.

Understanding Conventional Loan Down Payments

A conventional loan is a mortgage not insured or guaranteed by a government agency, such as the Federal Housing Administration (FHA) or the Department of Veterans Affairs (VA). Private mortgage lenders, banks, or credit unions issue and back these loans.

While a 20% down payment is often considered standard, many conventional loan options allow for lower upfront contributions. The minimum down payment can be as low as 3% for certain programs, particularly for first-time homebuyers.

Lenders establish their own criteria for conventional loans, but most adhere to guidelines set by government-sponsored enterprises like Fannie Mae and Freddie Mac. These guidelines influence the range of acceptable down payments and other borrower qualifications.

Key Considerations for a 5% Down Payment

Opting for a 5% down payment on a conventional loan carries specific financial considerations, particularly regarding private mortgage insurance (PMI). PMI is insurance required by lenders when a borrower makes a down payment of less than 20% of the home’s purchase price. This insurance protects the lender against potential losses if the borrower defaults on the loan.

PMI typically adds to the monthly mortgage payment, increasing the overall housing expense. The annual cost of PMI can range from approximately 0.46% to 1.5% of the loan amount. Factors influencing the PMI cost include the down payment amount, the borrower’s credit score, the loan amount, and the mortgage type. A larger down payment generally results in lower PMI premiums.

A lower down payment also means a higher loan amount, which directly impacts the total interest paid over the life of the loan. For example, on a $500,000 property, a 5% down payment could lead to significantly more interest paid compared to a larger down payment because the principal balance on which interest accrues is larger from the outset. While a smaller down payment reduces the immediate cash outlay, it can result in higher overall costs throughout the loan term.

Making a 5% down payment also results in less initial equity in the home. Equity represents the portion of the home’s value that the homeowner truly owns, calculated as the home’s current market value minus the outstanding mortgage balance. A lower initial equity position means it takes longer to build substantial ownership in the property.

Qualifying for a Low Down Payment Conventional Loan

To qualify for a conventional loan with a lower down payment, borrowers must meet specific criteria. A credit score of at least 620 is generally required for conventional loans. A higher credit score (720 or above) can result in more favorable interest rates and terms.

Lenders also assess a borrower’s debt-to-income (DTI) ratio, which compares monthly debt obligations to gross monthly income. While some loans may allow a DTI as high as 45% to 50%, lenders prefer a ratio below 36% for conventional loans. This ratio helps determine if a borrower has sufficient disposable income to manage new mortgage payments alongside existing debts. The DTI calculation includes monthly debts like credit card payments, car loans, and student loans.

Borrowers must also demonstrate stable income and employment. Lenders require verification of consistent earnings. This typically involves providing recent pay stubs, W-2s from the past two years, and sometimes tax returns. Self-employed individuals may need to provide profit and loss statements.

Asset verification is necessary to confirm a borrower has sufficient funds for the down payment and closing costs. Lenders review bank statements for checking and savings accounts, investment accounts, and retirement accounts. They usually require statements covering the most recent one- to two-month period of account activity. Any significant or unusual deposits must be explained and their sources verified.