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The Ups and Downs of 80/20 Loans


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TERMINOLOGY

With the emergence of many different loan products in the last few years, 80/20 loans have started to gain some popularity among buyers. An 80/20 loan is actually a combination of two loans. The buyer will get a regular mortgage for 80% of the cost of the property and then another smaller loan at 20% of the cost. There are advantages and disadvantages to this particular strategy. Here are a few ups and downs associated with 80/20 loans.

Avoid Down Payment
The biggest advantage of using an 80/20 loan is that you can avoid the down payment on your house. Many lenders require that you come up with a sizable down payment for your first home purchase. This can amount to thousands of dollars coming out of your savings. Many people do not have enough money in savings, but they still want to own a house. With an 80/20 loan, the main mortgage lender is satisfied because they do not have to loan the full amount of the purchase price. It limits their risk on the loan. The 20% mortgage lender is satisfied because you are paying them a higher amount of interest on the loan. Regardless of the details, you are essentially getting 100% financing, albeit from two different parties, with no down payment.

Avoiding PMI
Private mortgage insurance (PMI) is one of the biggest unexpected expenses for new homeowners. You can find out what your mortgage payment will be pretty easily, but when you realize you are going to have to pay for private mortgage insurance each month, it can come as a surprise. Many times, with PMI, it prices them out of the particular range of houses they are looking at. With an 80/20 loan, you can eliminate the need for private mortgage insurance. Private mortgage insurance is just used to guarantee the loan until the loan balance is down to 80% of the value of the home. Banks use this number because they feel like they could at least get 80% out of the house if you were to go into foreclosure. With their interest protected, they no longer require you to pay private mortgage insurance. This can save you money every single month.

Disadvantages
Although 80/20 loans can be beneficial, they can get complicated, as well. For one thing, you will have to keep up with two separate monthly payments to two different lenders. This increases the likelihood that you will forget your payment at some time and hurt your credit. In addition to the two payments, you will likely pay a higher interest rate on the second loan. This can increase the amount of money overall that you spend in mortgage interest.