Defer Your Mortgage Down Payment and Save

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With fewer homes selling and prices falling, a would-be home buyer might well stay on the sidelines for a while. Then what should you do with all that down payment money?

Most lenders are requiring 20% down payments, or $60,000 for a $300,000 home, and $10,000 more might be needed for closing costs such as points and title insurance. Buyers who are trading up get the cash from the sale of the old home, and generally try to have the sale and purchase occur as close together as possible. But first-time homeowners have to assemble a chunk of cash from other sources.

If you have the money together to buy now but decide to wait, the cash has to be stored somewhere. And the way the housing market is going, you could be storing it quite awhile – say, three, six or even 12 or more months before you feel a purchase is a safe bet.

Typically, home buyers store cash in checking, savings or money market accounts, where it’s easy to access. But the typical money market account currently yields a mere 0.249%, according to the BankingMyWay survey, and checking and savings accounts are even stingier.

If you want to be ready to jump on a home on short notice, there’s really no better alternative. Most cash and cash-like holdings, such as short-term bond funds, either pay very little or require living with some price fluctuation. It would be a shame to reach for yield with a bond fund only to lose money because share prices were down right at the time you decided to jump on the perfect home.

Thankfully, there are a few ways to deal with the situation.

Assess the local market. The housing market is in poor shape in much of the country, but that doesn’t matter if it’s healthy in the community that interests you. As a rule, it’s probably best to be wary of any neighborhood that has experienced big price changes recently. A big rise, though unlikely today, can signal a price bubble that could turn into a bust. A big drop could be followed by further declines.

If prices are steady or climbing slowly, the neighborhood may be a good bet. So long as you expect to stay in the home for five or more years, you should have time to recover if prices drop a percentage point or two at the start, so you may not need to postpone your purchase after all.

Move to the sidelines. If the housing market really is worrisome, you could walk away from it for a set period, say, six months or a year. That way, you could afford to tie your cash up in certificates of deposit, improving your interest earnings. The search tool shows quite a few 12-month CDs with yields over 1.3%, and some credit unions do even better.

Before tying your money up in a CD, find out its penalty for early withdrawal, which is typically a loss of three months' interest on a 12-month CD. That way you’ll know what it costs to get your cash if you change your mind and want to buy a home before the end of the year.

Be philosophical. If cash yields are low, then so is inflation. Your cash would not be losing much value if you kept it in a savings, checking or a money market account, where it would be very safe and accessible.

If you had $70,000 for buying a home, for example, you’d earn $1,050 a year with a “generous” 1.5% CD, or $174 with the average savings account at 0.249%. Missing out on that extra interest earnings would be aggravating but hardly ruinous. So, if you want to stay flexible, checking, savings or money market accounts are fine.

If you’re holding a big chunk of cash, it’s worth the trouble to shop around for a good deal, rather than just accept whatever your current bank offers at face value. Discover Bank (Stock Quote: DFS), for instance, has money market accounts yielding a tad over 1%.

—For the best rates on loans, bank accounts and credit cards, enter your ZIP code at BankingMyWay.com.

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