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"We want to buy a house but we only have enough for a 5% down payment. What do you think about FHA loans? I want to start building equity. Should we be buy a home now?" - Andrew
 Andrew, thanks for sending us your question. In general, you shouldn't buy a home until you can come up with at least a 10%, and ideally a 20% down payment. It's true that you can buy a home with as little as 3% down today and if your payments are similar to rent, it might not be a bad idea assuming everything in your life stays the same or gets better. But the problem with low down payment loans are numerous. Here are a few of them:
Beyond the Down Payment
There are many costs of owning a home beyond the initial closing costs. If you can only come up with a small down payment, how are you going to afford the shock of property taxes or the first time you have something break and it costs you $1,000 to fix it. Bank on spending thousands of dollars on everything from furniture to landscaping. If you only have 5% for a downpayment, where's this extra money going to come from?
It is a Commitment
When you buy a home, you are committing to paying a certain amount of money typically for 30 years. That's a big commitment. When you rent, if you can't afford your payments, you can always opt for a less expensive rental. Not so with a home that you own. If you can only come up with a 5% down payment, you haven't really demonstrated the ability to commit to something (in this case saving money) for a long period of time.
Ability to Sell
If you need to move for whatever reason, a 5% down payment won't allow you to for a fairly long time. While you might think that the day you close, you have 5% equity in your house, in reality you are underwater. The average closing costs including broker fees will run you 10% of your sale price and in today's flat or down market, it could take you years before you are able to sell and break even. The advantage of having a 20% down payment is that if you need to move in the first few years, you almost certainly will be able to, albeit at a loss.
Interest Rates
The best interest rates go to people that have high credit scores and 20% down payments. Anything less and you'll be paying more for the privilege of buying. Right now, you would pay about 1 percent more by not putting down 20%. Might not seem like a huge difference, but put another way, you are paying a 25% premium because you don't have a big enough down payment. If you get a conventional mortgage, you'll also pay Private Mortgage Insurance (PMI) which will add to this premium.
In terms of FHA loans, historically, they have only been for people that couldn't qualify for a home based on traditional lending criteria. That very definition should make you question the wisdom in getting an FHA loan. However, about a year ago, the FHA loan was the only program that those with less than stellar credit and a 20% down payment could get a mortgage with. Since then, the credit markets have loosened up and some banks have started lending widely again. If you have a 10% down payment and good credit, you can get a loan at most major banks. If you can qualify with a traditional bank or credit union, you'll generally do better than the FHA program.
You never need to buy a home and the market isn't going anywhere any time soon. Keep saving up and when you have a 10 percent or 20 percent down payment and a little more for a cushion, you'll be ready to buy your first home.
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