What is a Down Payment and How Do Down Payments Work?
A down payment is the amount of cash you put towards purchasing a home, vehicle or other assets. It typically represents a part of the total amount of the product. The down payment is the portion that you pay from your savings. You either pay by cash, cheque or internet banking. Down payments are usually, but not always, a part of a loan. In some cases, there is no requirement for a down payment, but it is a wiser decision to make a down payment anyway. It covers a percentage of the total cost price. You can pay the rest of the loan through regular installments or by refinancing.
To figure out how down payments work, we need to discuss a few questions and see the solutions available.
1. How much do you need for a down payment?
Most of the time you can choose how much of a down payment you can put out. But in the case of home purchases, the lender requires a percentage of the price, usually 5-20%.
- Larger down payment.
It helps in minimizing the amount you borrow. If you pay more up front, you'll have a lesser amount of debt. The interest cost will also reduce.
- Smaller down payment
You don't have to stress over coming up with a large sum when you don't have enough in savings.
2. Why is 20% ideal?
Down payment of 20% is ideal because it gives you a better chance at getting loan approval. It qualifies you for lower interest rates too. Lower monthly payments can make ease your life.
3. Do you have to put the down payment all at once?
No, the down payment is collected in two installments, the first one being an earnest money payment when the contract is signed and the second one is the final payment.
4. What does the lender require?
If your down payment is a part of a loan, the lenders will set a minimum required amount as a down payment. Lenders appreciate a larger down payment as it reduces their risk. When you put in a down payment, the lender trusts that you will make the monthly payments since your money is at stake too.
- Home loans - 20% of the total purchase rate. It protects the lender if you default on the loan.
- Car loans - At least 10% of the total amount should be the down payment.
5. How do you pay?
Most down payments are paid in cash, cheque, net transfer or money order.
6. How does the repayment every month happen?
If you have put a down payment, the rest of the loan is paid through monthly installments or by paying large amounts and different time periods.
7. What happens to the down payment if you decide not to buy.
You can reclaim your down payment even after the contract is signed if the deal falls apart. It depends on the local laws and the terms on the contract and the way the deal fell apart.
You can get your money back if the seller decided to take his product off the market or if you've changed your mind in between a specific time period.
8. What are the best ways to save to make a down payment?
Saving up thousands of dollars does seem like an intimidating task. However, you can save up for whatever you want to purchase, whether its a house, a car or anything else. Take it one step at a time and collect savings from tax refunds, spend less on things you don't need, tone down the weekend crazy and make sure you are getting paid well for the amount of work you do.