So you’re ready to stop renting, and we don’t blame you.
The price of rent has been steadily increasing since 2014, according to a recent Penny Hoarder analysis of Zillow data. As of October 2018, the median Zillow listing nationally for a two-bedroom rental is $1,646 a month.
Your other option is to buy a home, and that isn’t cheap, either. It’s a big commitment — but at least you’re gaining an asset and not funneling your whole paycheck over to a landlord.
If you’re thinking about buying a home, you’ll want to start saving for that down payment sooner than later.
Yes, it’s a big savings goal, but this guide will help you get on the right track.
Real Fast: What’s a Down Payment?
A down payment is the amount of money you pay upfront for your home — the money you’re putting down. Say you want to put 10% down on a $200,000 home; your down payment will be about $20,000.
This down payment goes directly toward you owning your home outright. What’s remaining will be covered by a mortgage loan. Like other forms of debt, you’re responsible for making monthly payments on that loan, which often include interest.
The more you’re able to put toward a down payment on a home, the lower your monthly mortgage rates — and the less you’ll pay in interest over time.
Pro tip: While you’re saving for a down payment, work to improve or maintain your credit score. The higher your credit score, the better chance you have to secure a mortgage with a low interest rate. If you’re not sure where to start, Credit Sesame is a free platform that allows you to see your credit score, credit report card and personalized advice.
How to Save for a Down Payment: Your Step-by-Step Guide
A down payment is different from any expense you’ve saved for before, including a car or a vacation.
“A down payment represents a ‘purchase’ that has longer-term consequences,” says Marc W. Lieberman, CFA charterholder and CEO of Shorepine Wealth Management.
“When you save for a vacation or a new TV, you are making a one-time purchase that likely does not have additional spending needs. A home is a purchase that requires constant maintenance and the financial wherewithal to maintain ownership.”
So how do you even start saving for such a big financial goal? Follow these six simple steps to start saving for what’ll likely be the largest purchase of your life.
No big deal or anything.
1. Determine How Much You Need to Save for a Down Payment
Before starting your savings journey, you’ll need to map out your goal. Here are some numbers to consider:
- Generally speaking, what’s your budget for a new home? In your desired city and neighborhood, take a look at properties you’d be interested in and that meet your needs. To determine the maximum mortgage payment you can afford each month, personal finance guru Dave Ramsey suggests multiplying your monthly take-home pay by 25% (0.25).
- How much money do you want to put down? Now that you have an idea of how much you want (or need) to spend on a home, consider how much you want to put down. Putting down 3% is considered low — but doable.
On the other hand, if you’re able to put down at least 20%, you’ll avoid making monthly payments for private mortgage insurance (PMI), which is generally 0.3% to 1.2% of your loan amount, according to Investopedia.
Don’t feel like you have to stretch yourself to pay 20% down, though. Say you take out a 10% down payment. Once you’ve made enough mortgage payments to hit 20% equity, you can cancel your PMI.
- When do you want to make the big purchase? Set your timeline.
Remember: Buying a home doesn’t simply require a down payment. You’ll also need to consider closing costs, real estate agent commission, property taxes and homeowners insurance — just to name a few. You can find more details about closing costs in our first-time homebuyer’s guide.
Lieberman also suggests tacking on a 10% to 20% “slush fund” to your savings goal for any additional expenses. This can help cover any unforeseen maintenance required when first moving in. Even if you don’t need it (fingers crossed you won’t), it’s nice to have that just-in-case cushion.
Now, do some math. Calculate how much you’ll need to save each month — or week, if you prefer working on a smaller scale.
Using a mortgage calculator like this one from Zillow can be super helpful when playing around with these numbers.
2. Open a Separate Savings Account
Once you know how much you need to put away, start considering where you want to keep this savings. Keeping such a large chunk of money in your primary checking account is risky — just because it feels like that money’s at your fingertips, ready to spend.
Instead, open a separate, hands-off account. Lieberman suggests a high-yield-interest savings account.
Try an iOS app called Varo Money. Pair your Bank Account with a Varo Savings Account where you’ll earn 1.75% annual percentage yield. For context, one of my banks offers a savings account with an APY closer to 0.03%.
Additionally, you’ll pay no monthly service fees, no minimum balance fees, no foreign transaction fees and no cash replacement fees.
Lieberman also suggests looking into a laddered certificate of deposit (CD) portfolio.
Whatever you choose, remember this: You want your money to earn some interest, but you don’t want the risk (like you’d face with investing). You’ll also want to keep the money in an easily accessible account.
“The last thing you need is to miss out on a home because the cash wasn’t available for the down payment,” Lieberman says.
3. Adjust Your Budget
Now that you know how much you need to save and where you’re going to stash that savings, it’s time to adjust your budget.
Take that monthly savings goal and build it into your budget as an expense. To make some room, you’ll likely have to cut down in other areas.
To get an idea of how you can tighten your budget, try using the free app Empower.
Link the app to your bank accounts, and Empower will track your spending. It will also categorize your spending so you can see exactly where you’re overdoing it.
Set a monthly spending limit and the app will show you a graph that can tell you in one snapshot just how you’re doing for the month. Are you over the line or under it? It’s that simple to see how you’re doing so you can adjust your spending accordingly.
It’ll take some finagling at first, but be patient — and realistic. Remember you’re saving for what’ll likely be the biggest purchase of your life, so it isn’t going to be totally effortless.
4. Automate Your Savings
Now that you know you can afford to save these monthly sums, it’s time to automate your savings. This helps hold you accountable and makes the process easier and more hands-off.
“Automated savings is a wonderful way to trick your mind into living off of less,” Lieberman says. “It is amazing how much less one can live off of without even noticing the difference.”
If you’re using a savings account, set your paycheck to automatically deposit a certain amount (see Step 1) into that account.
The easiest way to do this is to adjust your payroll settings or see whether your bank will automatically do it for you — most do.
With Chime, for example, you can opt in to save a portion of each paycheck when you set up direct deposit. You can also turn on its round-up feature, which rounds up all your Chime debit card transactions to the nearest dollar. It’ll dump the digital spare change into your savings — a nice bonus.
You can also tap into an app. Digit is a great way to save toward a specific goal. Set your timeline and savings goal, and Digit’s algorithms will determine how much money you can afford to save, which will be stored in an FDIC-insured savings account.
Digit is free to use for the first 30 days, then it’s $2.99 per month afterward. If you’re saving for a big purchase, like your first home, that monthly fee could be worth it.
In all, automation is a great, hands-off way to keep building your savings — without obsessing over every penny.
5. Get Creative, and Cut Your Monthly Bills
Outside of rent, your largest expenses are probably those monthly bills: electric, water, cable/internet, car insurance, student loan payments — you name it.
There are a number of ways to save on your monthly bills, but here’s a simple one to get you started: Download TrueBill, an app that’ll negotiate your bills, cancel unwanted subscriptions and refund your bank fees.
After downloading the app, create an account, and link your bank account and/or credit cards. Turn on the bill negotiation and outage protection features. Boom. TrueBill is already searching for potential refunds — it might get you a refund even when you didn’t know an outage occurred.
On average, Truebill says it helps customers save more than $700 a year by lowering their bills, canceling necessary subscriptions and getting refunds.
6. Increase Your Income
If you’re still struggling to meet your monthly savings goal, you might need to boost your income.
Luckily, there are a ton of platforms that’ll help you start up a side gig, including one of our favorites: Rover. (Because dogs, duh.)
On Rover you can choose to offer a variety of services, including dog walking, overnight boarding at your home or theirs, and daycare. Rover says sitters can earn as much as $1,000 a month — just for snugglin’ pups!
You should also plan to bank any windfalls — big or small. If you get a raise at work, automatically dispense the difference into your savings. If you earn a holiday bonus, bank that, too.
You can work to sell off some items you don’t need, too. After all, you’ll be moving soon.
If you have an old smartphone, tablet or laptop collecting dust, snag a a buy-back price estimate from an online trade-in platform like Gazelle. For anything else, consider Letgo. You can list just about anything on there — from cars to clothes.
Moral of the story? Slide any extra money you make into that separate hands-of savings account to go toward your savings goal.
Another Option: Seek Down Payment Assistance
If you’ve followed these steps and are still struggling to save for a down payment — or don’t have enough time — look into down payment assistance programs in your city or state.
John R. Thomas, a certified mortgage planner and the Delaware branch manager of Primary Residential Mortgage, outlined a few nationwide assistance programs:
- Federal Housing Administration (FHA) loans are government-backed mortgages for those who can’t afford to put a lot of money down. They’re a popular option for first-time homebuyers. In 2018, borrowers with a credit score of at least 580 could put down 3.5%, according to the FHA website.
- If you’re a veteran, current servicemember or surviving spouse, you might qualify for a VA home loan, which offers competitive interest rates without a down payment or private mortgage insurance.
- The U.S. Department of Agriculture (USDA) also offers a no-down payment option if you purchase a qualified home and borrow from a qualified lender. Although it caters to those purchasing a home in a rural area, the definition of rural is pretty broad. Be sure to read into the requirements.
Thomas assures prospective homebuyers that these programs are simple to look into in any state.
In the end, know that buying a home isn’t totally out of reach. Just be patient with yourself, and you’ll be able to put the money away.
Carson Kohler (firstname.lastname@example.org) is a staff writer at The Penny Hoarder. She’d love to buy her first home sweet home… one of these days.
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