How much of a down payment should you make on your mortgage? Though the usual answer is "whatever you can afford," it's really not all that simple - though it's not difficult to figure out.

To begin with, it's almost a sure thing you're going to need one. Unless you can qualify for a VA or USDA home loan, the zero-down payment mortgage has pretty much disappeared from the scene. The closest to zero down most people can get these days is an FHA mortgage, which requires a minimum down payment of 3.5 percent.

For a conventional mortgage though, most borrowers are going to need at least 10 percent down and preferably 20. You may still be able to get a conventional mortgage for as little as 5 percent down from some lenders if you have excellent credit and are buying/refinancing in an area where home values have escaped the worst of the downturn in the housing market.

Here's where it starts to get interesting, though. While FHA mortgages generally offer competitive interest rates compared to conventional mortgages, they charge an up-front premium of 1.75 percent of the loan amount. So if you can get better terms on a conventional mortgage with a 5 percent down payment, you're probably off going that route than effectively putting up 5.25 percent (3.5 percent down plus 1.75 percent premium) on the FHA loan. Plus, all of your down payment gives you equity in the property - the 1.75 percent FHA premium is money you won't see again.

Down payment afffects interest rate

The main thing you want to do is tailor your down payment to one of several down payment categories your lender uses, depending on what you can afford. Most lenders use a scale in which interest rates go down as down payments go up, with small rate decreases typically occurring at 3 percent (when available), 5 percent, 10 percent, 15 percent, 18 percent, 20 percent and sometimes above.

So while you'll probably get a better interest rate with 15 percent down than you would with 10 percent, putting 13 percent down isn't going to help you any. In that situation, you might want to try to come up with the additional 2 percent to move yourself up to the next category, depending on what your interest savings would be.

On the other hand, if you can't come up with the extra 2 percent, you may want to simply stick with a 10 percent down payment and put the rest into savings or other investments. Your interest rate won't be any higher and it's always good to have a bit of a financial cushion for unexpected expenses when buying a home.

The big cutoff - 20 percent

The biggest cutoff point, of course, is at the 20 percent down payment, for a couple of reasons. First, a 20 percent down payment will help you qualify for the best rates lenders offer - further rate reductions for down payments above 20 percent tend to be minor. Second, a 20 percent down payment means you won't need to pay for private mortgage insurance (PMI) - which is roughly equal to an additional half percent of interest on your mortgage every month.

If you're anywhere close to having 20 percent down, it's well worth it to try and get the additional funds or perhaps choose a slightly less-expensive home to put yourself over the mark. It can mean a savings in interest and PMI roughly equal to three-quarters of a percentage point on your interest rate, which can add up quickly. On a $200,000 mortgage at today's rates, for example, the difference between being over or under 20 percent can be nearly $100 a month in interest and PMI savings.

For those who can afford it, there can also be good reasons for paying more than 20 percent. Among these is paying enough to drop your mortgage below $417,000 and out of the "jumbo" category. Not only do jumbo loans carry higher rates than conventional mortgages, they're significantly harder to obtain these days - virtually impossible with some lenders. So many borrowers find it well worth-while to post a significant down payment to stay out of this category.

Published on December 10, 2009