Can 3% down payments really compete in today's tight mortgage market?

Lenders can pump out as many low down payment offerings as they want, but if these low down programs don’t compete in today’s tight market, they’re next to worthless for first-time borrowers fighting to finally lock in a home.

Housing supply is devastatingly low for first-time homeowners, and they need all support they can get to make their offer stand out.

So will a low down payment hurt their chances against another borrower who puts 20% down?

The short answer: no.

But, it’s going to take all parties involved to change this mindset against the competitive edge that low down payment mortgages bring.

Fannie Mae and Freddie Mac started the low down payment trend back in 2014, when both of the government-sponsored enterprises rolled out 3% down mortgages.

The entire goal of the new low down payment programs was to expand access to credit for qualified first-time homebuyers who may not have the resources for a larger down payment.

So, on one hand, there are all these initiatives coming out to help first-time homebuyers get access to credit.

But, on the other hand, there are barely any homes for them to buy. Tian Liu, Genworth Mortgage Insurance chief economist, recently said, “The market for new homes is facing a growing imbalance between what buyers want and what homebuilders are producing. And this is the biggest bottleneck facing the housing recovery today.”

“Demand from potential first-time homebuyers is strong,” Liu said. “They are buying homes priced between $200,000 and $300,000. Unfortunately, the supply of new homes is yet to catch up in this price range.”

There are reports, like this one from Redfin, that say low down payment mortgages can compete in today’s market, but unfortunately, there are still home shoppers out there losing to people with higher down payments.

Bruce Elliott, president of the Orlando Regional Realtor Association, explained in an interview the mixture of variables that are creating this problem.   

The biggest issue that also comes with a simple fix comes down to a borrower being pre-approved versus pre-qualified.

“It doesn’t matter if it’s $3,000 down or $30,000 down on the house, the difference is if the buyer is pre-approved versus pre-qualified,” said Elliott.

A pre-approval holds significantly more weight than a pre-qualification. As realtor.com explained in a blog post, “Pre-qualification means that a lender has evaluated your creditworthiness and has decided that you probably will be eligible for a loan up to a certain amount.”

This pre-qualification letter, however, is an approximation—not a promise.

Meanwhile, the article stated, “A pre-approval letter is the real deal, a statement from a lender that you qualify for a specific mortgage amount based on an underwriter’s review of all of your financial information: credit report, pay stubs, bank statement, salary, assets, and obligations.”

And although lenders know this difference, the message isn’t getting across to borrowers.   

Elliott noted that he still has more home shoppers come to him who are not approved rather than approved.

Elliott said when he meets with new clients, he asks in his remarks if they are pre approved.

This isn’t common practice for all real estate agents though. Elliott explained that people trust their Realtor. And just as it can be lost on a borrower to know they need to be pre-approved, it can be lost on a real estate agent to know to educate borrowers on this.

This area is getting better though, said Elliot, as borrowers and agents start to know the importance of being approved.

But this doesn’t always happen. For example, Elliot said, “[First-time homebuyer] homes are going fast. That agent is motivating the buyer to put their offer in and get it under contract and get it financed.”

However, since they are moving so fast, they don’t realize the person isn’t approved.

In order for these low down payment mortgage offerings to work, it’s going to take the lender, real estate agent, seller and buyer to all know how the product works.

Because if not, all the work lenders are putting into ensuring these programs work will be for nothing. 

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