Down Payment

Financial Dictionary -> Mortgages -> Down Payment

A down payment refers to when the purchase of a house is to be made only partially upfront and the rest is covered by a mortgage. The initial upfront payment is known as the down payment and is made with cash when the time comes to finalize the transaction.

As opposed to having a full mortgage the down payment offers security to both the owner and the mortgage lender, in that the owner now has an investment and at least part owns the house and if for whatever reason they fall in to delinquency on mortgage repayment and the lender forces them in to foreclosure there is collateral there for the lender to recoup.

For example if the borrower fails to pay the mortgage and is forced to sell the house to make the repayment then that initial down payment is used to cover their debt to the mortgage lender. If however the house was purchased with a full mortgage (which is rare) then there is no collateral for the lender to recoup, which is very risky.

A down payment can also be taken out on items such as cars when the buyer cannot afford the full amount, or would just prefer to use monthly terms instead of buying outright.

Down payments vary a great deal from case to case and some people can afford a significant amount of the full purchase price. It usually ranges from 5 percent to 20 percent (in real estate) and anything lower than 3 percent isn't considered very secure and is likely to be rejected.

When negotiating a down payment and mortgage, like all loans the lender will obtain a credit report and look in to the credit history of the borrower to see if they are safe to lend to. If they have a poor credit history then it is likely a larger down payment is required to secure the mortgage. If they have a great credit rating then easier terms can be negotiated.

It is generally worth it to wait until you can make a sizeable down payment on a home in order to save money in the long run.