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80-20 Home Purchase Loans

An 80/20 mortgage loan is a type of zero-down mortgage. A zero-down mortgage is one where the buyer doesn’t have any down payment but finances the entire purchase price of the home. That doesn’t mean that you get to walk into your new home without an outlay of cash. You still must cover the closing costs, which can run into thousands of dollars.

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The 80/20 loan is actually two loans. The first loan is for 80% of the purchase price and the second loan is for the additional 20%. The alternatives to this type of loan is one where you finance 100% of the purchase price on one loan or where you have a down payment of 5%, a primary loan of 80% and the remaining 15% on a secondary loan. This is known as an 80/15/5 loan. There are also many variations on the down payment, primary and second loan amounts.

The interest rate on the second loan will always be higher than the rate on the primary loan. The only time this sort of loan makes sense is when you take into account the cost of premium insurance on a single loan for 100% of the purchase price.

Premium insurance is the insurance you are required to take out when you finance 100% of the purchase price. If you default on your loan, the insurance company will pay off the loan to the lending institution. It reduces the risk to the lender. This type of insurance can add to your monthly payments and it isn’t tax deductible.

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With the 80/20 loan, you often aren’t required to pay the expensive premium insurance. The interest on both loans is tax deductible, up to a certain amount. Check with a tax professional before you make assumptions about deductions.

Sometimes the combination of the insurance savings and the added tax deduction can be greater than the additional cost of the second loan. This is one of those decisions that you can cost out completely.

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The biggest drawback to this type of loan is inherent in any zero-down loan. If you want to get sell or refinance after a few years and your home hasn’t appreciated, you’ll have to come up with cash to pay off the loan. In a hot housing market this isn’t a problem but as the housing market cools, this could become an issue.

 

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