Is there any risk for having more than 20% down payment for a new condo? I read an article suggested paying

Asked by Maria, San Francisco, CA Sun Apr 13, 2008

no more than a 20% down payment for a house or condo. The reason is unforeseen circumstances, such as finding that the condo association is broke or earthquake. Do you agree with this advice?

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Don Tepper’s answer
Don Tepper, Agent, Burke, VA
Mon Apr 14, 2008
Check with your accountant or financial planner. In some instances, it would make a lot of sense. In other cases, no.

I don't agree with the rationale of the article, though. Yes, your decision whether to buy or not to buy at all can be influenced by the financial condition of the condo association, the likelihood of an earthquake, etc. But, to take the example of a condo association in poor financial condition. Any special assessments or radical increase in condo fees would be based on your percent of ownership in the entire condo. And that's generally determined by the purchase price of the condo, and doesn't have anything to do with the amount of money you put down. And with an earthquake, your decision should be based on fear of earthquakes, the adequacy of any insurance to rebuild, etc.--again, having nothing at all to do with how much you put down.

The question of how much to put down, your accountant may tell you, depends on a number of factors. First, you generally don't want to tie up all your available cash in an essentially illiquid investment. You should have some emergency cash reserves--some experts suggest 3 months of living expenses, some suggest 6, some have other figures. Plus, if you know you're going to need a chunk of cash in the near future--a new car, or a big vacation, etc., you don't want it all tied up in a condo where you can't easily get to it. That's one consideration.

Another consideration is your monthly mortgage payments, your tax bracket (how valuable are the interest and tax deductions), and whether you could afford monthly payments at "only" 20% down. You need to know what your budget is, and you need to know the value of the tax deductions. To oversimplify a bit, the more you put down, the lower your monthly payments and the lower the tax deductible amount.

Another consideration is purely personal. Some people just like owing less. It makes them feel more comfortable. Only you can address that question.

Another consideration is what you'd do with the money if you didn't put it toward a down payment. Suppose you got a mortgage at 6%. Now, leaving aside the tax consequences and the future value of money (both things that you should consider), if you said, "I'm going to take the rest of the money and put it into a savings account at 2% a year," then the "better" use of your money would be to reduce your mortgage. On the other hand, if you said, "I have an investment opportunity that I know will return 12% a year," then the "better" use of your money would be the 12% investment opportunity.

Along somewhat similar lines, none of us has a crystal ball about what property values are going to do. But the less you put down, the more leverage you have. And that's good if the market goes up; it's more painful if the market goes down. Example: You buy a $500,000 property and put 20% ($100,000) down. If the value of the property goes up 5%, your property is now worth $525,000. That (ignoring transaction costs of sale) is a "profit" of $25,000 on your $100,000 investment--or a 25% return. On the other hand, you buy the same $500,000 property and put 40% ($200,000) down, and it goes up 5%. The property is again worth $525,000. However, your return on investment--a $25,000 return on $200,000--drops to 12.5%. Please understand: I'm not predicting market directions. I'm just giving an example showing that less down means a greater return in an up market, and greater exposure in a down market.

Again, these are questions that you and your accountant or financial planner can answer, not me. But I do think they're the "right" questions to begin with.

Hope that helps.
1 vote
Pacita Dimac…, Agent, Oakland, CA
Mon Apr 14, 2008
The unforeseen circumstances you mentioned may not be the reasons why you may want to re-think putting down 20% on a condo. Most buyers consider putting down 20% because they don't want to pay the mortgage insurance which is typically 1/2-1% of the loan.

As times and the markets change, the opinions on this subject also change depending on the financial adviser. In Sunday's San Francisco Chronicle (April 13 2008) issue, advice by columnist Benny Kass, he says "It does not make sense to own your house free and clear unbless youhave enough money stashed away and are comfortable that you will be able to financially cope with emergencies that mahy arise in the future...."

The questions you should ask yourself is how long are you planning to stay in the property. If you're planning to stay longer than 5-7 years, then you obviously would be building quite a bit of equity with a 20% down payment. But if the possibility exists that you may move in less than 2 years, are you willing to put a significant portion your cash reserves in an asset that you cannot liquidate quickly?

As you shop for a condo, ask to see the HOA (homeowners association) documents including the CCRs (Conditions, Covenants and Restrictions), their financial budget and reserves. This will show you if the HOA has a substantial reserve account and what kind of insurance do they have (earthquake included). This may help allay your concerns about risk.
1 vote
Scott Osborne, , San Francisco, CA
Sat Apr 19, 2008
There are a number of factors that should determine your down payment, the first that come to mind are:
Your risk tolerance, your current and projected income level, your other investment opportunities, your guestimate for future interest rates, the time you plan to hold the property, your tax status and whether you plan to occupy the property. Finding that the condo association is broke is primarily due diligence before you buy, and very rare, and earthquakes, well???

I generally reccommend low down payments since it is easy to get a return higher than the interest rate you will be paying, and inflation will be on your side for the long term. Please call me for a more detailed analysis.
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Peter Brunton, , San Francisco, CA
Tue Apr 15, 2008
Hi Maria,

I am a firm believer in diversification. Unless there is difficulty in making higher monthly payments, I would always suggest financing 80% or even less. The stock market generally averages 8% per year, so it would be beneficial to place that difference between the 20% and what you could pay in the stock market. Real Estate should be part of a diversified portfolio so that if one is struggling you still have the others to back you up.
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Melanie Nard…, , San Francisco, CA
Mon Apr 14, 2008
Hi Maria,
All good answers here, I'd also recommend talking with your accountant to decide how much tax advantage you will want to plan for in the picture. Also, negotiate for incentives such as upgraded appliances, hoa dues paid for 6 months to a year, many new buildings are open to negotiating. Good luck!
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Maria, Home Buyer, San Francisco, CA
Mon Apr 14, 2008
I will have at least 20% down payment. But my question is whether I should have MORE THAN 20% down (eg, 40%). Fortunately, I can afford to do that, but I don't know if it is a wise thing to do. Thanks again!
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Sally Rosenm…, Agent, San Francisco, CA
Mon Apr 14, 2008
Dear Maria,

Please check all the Condo documents before buying. You will give given a budget and will be told of any current special assessments or of any in the near future. Read the Transfer Disclosure Statements. That will tell you if the HOA is "broke." An earthquake is another thing altogether. Does the complex have earthquake insurance? Is the building reinforced or have anything done to it to help the structure withstand an earthquake? Did you have an inspection by a licensed general contractor who can tell you about the building? These are important things to consider.

If you have the money, 20% down is the way to go so you are not paying PMI as mentioned by Pacita. Check with lenders as you will probably get a better loan rate. If you do not have any money saved, then you could check with a mortgage broker about putting down 10% and getting a second loan for 10% as well as an 80% loan. I think you will find 80/20 is better. If you are looking for 100% financing in today's market, I think you will find it very hard to get any loan. Talk to the lender about the potential of having to finance any repairs. Lastly, you need to plan to live there 5-7 years to make it an investment..... We all hope that the subprime debacle is cleared up and property begins to appreciate upwards again. I do not think we will see double digit rises any time soon.....unfortunately.

Good luck!
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