Can You Use a Personal Loan for a Down Payment?

Can You Use a Personal Loan for a Down Payment?

In the majority of cases, it is not possible to use a personal loan as the down payment on a house because most mortgage lenders won’t allow it. Both FHA mortgages and conventional lenders forbid borrowers from using a personal loan to finance the down payment of the property.

Even if you do find a mortgage provider who doesn’t specifically prohibit the use of a personal loan for the down payment it is probably far from your best option.

Apart from the fact that most lenders won’t accept a personal loan as a down payment, there are several reasons why you shouldn’t try to borrow the money for a down payment. In fact, you shouldn’t take out a personal loan for any purpose just before you apply for a mortgage.

When you make a mortgage application the lender will make a forensic investigation into your financial situation. A major factor in their decision-making process is your debt-to-income ratio – what percentage of your income is used to service your debt repayments. Many mortgage companies require this to be 36% or less and there are very few indeed who would give a mortgage to anyone with a DTI of 43% or above.

The repayments required by a personal loan will certainly increase your DTI and may even take it above the minimum figure required by your proposed lender. Even if your revised DTI is below their threshold, taking out a personal loan may raise questions about your financial ability to cope with the mortgage payments. Either way, it is unlikely they will lend you the money you need for your new home.

Lenders want to see that you are financially sound, can make the down payment, and have no problems meeting the monthly mortgage payments.

Is it a good idea to borrow money for a home down payment?

Using a personal loan to provide the cash for a down payment is rarely a good plan, even if you find a lender that allows it. Although a personal loan can be a useful financial tool in some circumstances it should not be used to supply money for a down payment. Here’s why:

• Most mortgage providers, including the FHA, won’t allow it.
• Paying a mortgage every month will add to your outgoings and finding the money for personal loan repayment will only add to that financial burden.
• Taking out a personal loan will require a hard credit check and lower your credit score, at least in the short term. You want that credit score to be as high as possible when applying for a mortgage.
• A personal loan is not a cheap way of borrowing money, certainly not compared to most mortgage rates.
• Although finding 20% of a home’s selling price may be beyond you some lenders will accept as little as 3%, which is a much more realistic figure to get together, depending on where you intend to buy.

What to consider if you decide to use a personal loan for a down payment

If after these warnings you still decide to go the personal loan route to finding the money for a down payment here are some points you must consider:

• Carefully search the market and find the best loan available. You want a low APR and a generous term.
• Your credit score matters. Although there are lenders that will offer loans to those with less than perfect credit, the best deals go with high credit scores.
• Look out for fees and penalties. There will usually be an origination fee of between 1% and 8% of the loan amount and some lenders will penalize you if you pay off the loan early.
• Make certain the repayments are reasonable and within your budget. Don’t forget you are already taking on the monthly mortgage payments.