Shopping around for a home loan? Then you’re probably trying to figure out how to strike the best balance between your down payment and monthly mortgage expenses. Understanding just how much house you can afford is tricky, which is why it helps to know all of your options in advance.
Piggyback loans are just one more financing option you have at your fingertips for purchasing the home of your dreams — even without that 20% down payment. These loans involve taking out two rather than one mortgage, but can save you thousands of dollars on private mortgage insurance for borrowers who can’t afford a large down payment. Ready to learn more about piggyback home loans and if borrowing one is the right choice for you? Keep reading.
What Is a Piggyback Loan?
A piggyback loan, true to its name, is a set of two loans — with one piggybacking off the other. These loans are also sometimes referred to 80/10/10 loans, where the first loan is equal to 80% of your home’s purchase price, and the second loan is equal to 10% of the purchase price. This type of financing structure assumes you have at least 10% of the home’s purchase price to put toward a down payment.
Since many lenders require private mortgage insurance (PMI) on mortgages with less than a 20% down payment, this financing structure can help bridge that gap (for borrowers who don’t have the full 20% saved up) and ensure that you avoid paying extra PMI fees— which definitely don’t come cheap.
Let’s crunch some numbers as an example. Say you want to buy a home for $300k. Using a piggyback loan, your financing plan would look something like this:
|1st loan (80%)||$240k|
|2nd loan (10%)||$30k|
|Down payment (10%)||$30k|
As you can see, using this financing structure will save you roughly half the sum of your down payment, allowing you to focus on saving up $30k rather than a whopping $60k in order to buy your home.
Benefits of piggyback loan
The biggest benefit of a piggyback loan is the savings you get from not having to take out a PMI policy. These insurance policies, which are required by most banks for borrowers putting less than 20% down on their homes, typically cost anywhere from 0.5% to 1% of your total loan amount per year. Some experts claim this number can even go up to 1.86% per year. This might sound insignificant, but let’s crunch some numbers to really see what it might actually cost you.
Using the same example as before, let’s say you were to take out a conventional loan for a house with a $300k listing price, and put 10% as a down payment. This would put your loan amount at roughly $270k. Here’s what various PMI payments might look like on a loan this size.
|PMI rate (as % of your loan)||Annual payment due||Monthly payment due|
A previous version of this post used incorrect figures in the chart. It has been updated.
As the numbers will show, PMI is clearly nothing to scoff at. In fact, PMI is so expensive that it could easily cost you a monthly mortgage payment many times over— in addition to actually having to pay your mortgage each month as well.
Things To Keep in Mind
Now that you know a bit more about piggyback loans, and all the savings they can provide, let’s talk about some of the downsides. After all, if piggyback mortgages are so convenient, why don’t more people get them?
The biggest downside of piggyback loans (and the reason more people don’t have them) is because they’re actually pretty hard to get. Think about it: Instead of going through the loan approval process once, you have to go through it twice. You’ll also be borrowing two separate loans at once, which is seen as a higher risk to many lenders.
These loans require higher credit scores, and you might even need to apply through a special lender who is accustomed to dealing with these types of financing packages. There’s also repayment to consider. Although refinancing a mortgage is typically seen as a relatively simple move for borrowers interested in securing lower interest rates— refinancing will be a lot harder when you have two loans instead of one. You’ll also be responsible for paying the closing costs on two separate loans (typically 2% to 5% of the loan amount) as well as any loan origination fees the lender may charge.
How To Apply
According to the credit experts at Experian, you’ll need a “very good to exceptional” credit score in order to qualify for a piggyback loan. Meaning, your score will need to be at least 700, although you’re more likely to qualify with a score of 740 or higher.
You should also plan on having enough saved up for as much of a down payment as you can afford, plus some extra funds for closing costs and other fees associated with buying your home. Finally, you’ll want to make sure your debt-to-income ratio is within a reasonable range before approaching lenders. While all of these things are pretty standard for anyone on the market to buy a home, the requirements are even more strict when applying for a piggyback loan— making it that much more important to have your financial ducks in a row.
Piggyback loans might not be the most straight-forward financing package out there, but for the right home buyer— they can make all the difference in the world. Sit down and take a good hard look at your finances to decide if borrowing a piggyback loan might be able to help you reach your financial goals. And if the answer is no, don’t worry— there are a lot of other options that can help you afford your dream home.
Contributor Larissa Runkle specializes in finance, real estate and lifestyle topics.