By Dian Hymer
Buyers who are short of cash like 80-10-10 financing because it allows them to finance 90 percent of the purchase price without paying private mortgage insurance. PMI is insurance that protects lenders from a buyer default.
PMI is often required when the mortgage amount is more than 80 percent of the purchase price. The buyer pays for the premium. The cost varies but it can be equivalent of an additional 1/2 to 1 percent of the loan amount per year. Furthermore, this cost is not tax-deductible.
With 80-10-10 financing, the buyers make a cash down payment of 10 percent of the purchase price. They take out two mortgages: a new first mortgage for 80 percent of the price and 10 percent second mortgage. Often the first and second mortgages are from the same lender.
The interest rate on the second mortgage will be about 2 percent higher than the going rate on first mortgages. These loans are usually due in 15 years. But the payments are amortized over 30 years, which keeps the monthly payment down.
Lower monthly payments makes mortgage qualification easier. But, at the end of 15 years, the entire remaining loan balance on the second is due. This shouldn't pose a problem for most homebuyers, however, because statistics show that most homeowners refinance or sell within 5 to 7 years.
In addition to avoiding PMI, which many homebuyers see as a waste of money, 80-10-10 financing offers other advantages. For example, let's say that you only have 10 percent to put down on a home today. But you expect that your income will increase dramatically over the next few years, allowing you to save more cash. You plan to stay in your home for the long run and you ultimately want lower monthly payments. At some point, you can pay the second mortgage off in full and be left with a fully amortized 30-year mortgage.
First Time Tip: This strategy is useful to repeat homebuyers who have a home to sell but who want to buy their new home before selling the old one. As long as you have sufficient income to qualify to carry two mortgage payments (the one on the new home and the one on the home you're selling), and you have 10 percent cash to put down on the new home, you can use 80-10-10 financing instead of interim or swing financing.
Swing, or interim, financing is short-term financing that allows you to borrow some of the equity from your current home in order to make a down payment on a new home. These loans typically have higher interest rates than you'll find on most second mortgages. And, they are usually due in six months. Also some lenders require that your home be sold before they'll issue a swing loan.
With 80-10-10 financing, the 10 percent second mortgage is in place for the next 15 years. You can pay the second off in less than 15 years, at your discretion. But if you have a swing loan and it takes longer than 6 months to sell your old home, you'll have pay off the loan at an inconvenient time unless you can negotiate an extension.
The Closing: If you do use 80-10-10- financing instead of a swing loan, make sure that the second mortgage does not have a prepayment penalty. Then when your old home sells, you can use the proceeds to pay off the second and you'll be left with an 80 percent mortgage on your new home.
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