Consider the long-term costs before you get a zero-down mortgage
- Conventional zero-down mortgages often carry high interest rates and require mortgage insurance.
- VA and USDA loans are low-cost, zero-down mortgage options for veterans and eligible low-income, rural residents.
- Credit unions are beginning to offer more affordable zero-down loans to the wider public.
- Conventional lenders also offer zero-down mortgages, though strict credit and debt-to-income requirements apply.
A zero-down mortgage – also known as a 100 percent mortgage – refers to financing the entire home purchase, with no money paid up front. Zero-down mortgages virtually disappeared after the 2008 financial crisis as lenders tightened their underwriting criteria. A variety of federal, credit union and conventional programs are slowly revitalizing the option, but with continued strict eligibility requirements. That said, zero-down loans can be costlier than one would imagine.
Benefits and risks
The benefit of a zero-down mortgage is in its name: there is no up-front cash required. From the lender’s perspective, a lack of down payment means the borrower doesn’t have as strong a vested interest in the property. The lender considers that lack of equity to be a higher risk, and charges a higher interest rate. When borrowers make a down payment, automatically building some equity, lenders see a smaller risk for default and generally charge a lower rate.
Another consideration with a zero-down mortgage includes a higher monthly payment, a consequence of borrowing more money and paying those higher rates over the course of the loan. Since you have less than 20 percent equity in your home, most lenders will require you pay private mortgage insurance, adding to the monthly bill.
The most common zero-down mortgages are federally backed loans issued by private lenders. The government guarantees these mortgages, allowing lenders to extend more favorable terms.
For example, veterans and their spouses may be eligible for zero-down mortgages with low interest rates and no mortgage insurance requirement through the U.S. Department of Veterans Affairs (VA) loans. U.S. Department of Agriculture (USDA) offers zero-down mortgages with low interest rates and low mortgage insurance requirements, available to borrowers who meet certain income and location requirements.
With low rates and low-to-no mortgage insurance requirements, these government-backed mortgages eliminate many borrower risks and costs associated with zero-down loans. They are only available to a niche segment of the population, however. Other lenders offer zero-down mortgages to the general public.
In an effort to attract first-time homebuyers, several credit unions have expanded their mortgage offerings to include zero-down loans with competitive interest rates and no mortgage insurance requirements. Some credit unions even allow for closing costs to be rolled into the mortgage.
Many credit union membership requirements are flexible as well. For example, to be eligible to join the Navy Federal Credit Union, you can be a current servicemember or a veteran of any branch of the U.S. armed forces, current or former civilian contractor or have an immediate family member who served. Eligibility to join the NASA Federal Credit Union extends to several NASA-affiliated partner associations in industries as diverse as architecture, consumer electronics and human resources. Being a member alone does not guarantee you mortgage approval, however. Credit unions usually have strict credit score and debt-to-income ratio requirements.
A number of conventional lenders also offer zero-down mortgages. Some lenders even extend grants to borrowers to cover a 3 percent down payment so that the mortgage conforms with Fannie Mae and Freddie Mac standards. That is effectively free money from the lender to entice homebuyers with no down payment. There are strings attached, however. Conventional lenders typically charge higher interest rates to cover the risk of a zero-down mortgage. Moreover, lenders have much tougher eligibility requirements for borrowers seeking such loans. Strong credit of at least 640 is required, though approved borrowers frequently have credit scores in the mid-700s. Debt-to-income ratio requirements are also much stricter than the typical mortgage, as low as 37 percent for some lenders.
Whether a zero-down mortgage makes sense for you depends greatly on your financial, credit and eligibility situation. Compare lenders and consider low down payment options to bring your home ownership goals to fruition.