Are you thinking of buying a house? Do you have less than 20% to put down? Then you might consider taking an 80/10 loan or two loans that add up to 90%.

What is an 80/10 loan?

An 80/10 loan is where you take out two loans that add up to 90%. Why wouldn’t you just take out one loan? To avoid PMI. Why doesn’t everyone do this? There are pros and cons to an 80/10 loan.

Advantages: saving money

The main advantage of taking an 80/10 loan is to avoid PMI so you can save money on your monthly mortgage payment. Here’s an example: you are buying a house for $400,000 and planning on putting down 10% or $40,000. Your loan officer quotes you a 30 year fixed at 3.875%. Based on that rate, your loan of $360,000 would cost you $1,692 per month, plus you’d have to pay PMI (Private Mortgage Insurance) of $138 a month. So your total payment before property taxes and home owner’s insurance is $1,830.

Compare this to taking an 80/10 loan. With an 80/10 loan, your lender gives you a first mortgage for 80% of the purchase price, or $320,000 in our example, plus a second mortgage for 10% of the purchase price or $40,000. The first mortgage is often at a slightly higher rate than if you took one loan for 90% because there are pricing adjusters for subordinate financing. Your lender quotes you a rate of 4.125% for the first mortgage and a HELOC (Home Equity Line of Credit) at Prime + 1.24%. Prime is currently at 5.50% so your fully indexed rate of 6.74%. The payment on your first mortgage would be $1,551 and the payment on the second mortgage would be $224 for a total of $1,775. So you’d be saving $54 a month by taking an 80/10 loan.

Another saving is at tax time. Mortgage interest is deductible; PMI is currently not deductible (although lawmakers are trying to bring this deduction back).

Disadvantages: interest rate risk

The main disadvantage of an 80/10 loan is that the second mortgage is usually not fixed. Most lenders who offer 80/10 loans give you a HELOC for the second piece. Home Equity Lines of Credit are usually based on Prime, which can change with the market. However, if you have the ability to pay down the second mortgage, your payments will drop. With a HELOC, your payments are based on what you owe at any point in time.

Who should take an 80/10 loan?

The ideal candidate for an 80/10 loan is someone who only has 10% to put down but who might be able to pay down the second loan in the future. You or your partner might be getting a bonus or commission in the near future which would let you pay down the second loan.

Who should NOT take one?

Someone who only has 10% to put down and has NO chance of being able to make a pay down on the second loan. It doesn’t take much of a rise in interest rates for an 80/10 loan to cost you more than a loan with PMI. If for example Prime went to 7.50%, your fully indexed rate would be 8.74% and your payment would be $291 for a total of $1,842.

If you’re thinking about buying a house with less than 20% down, contact one of the experienced loan officers at Amerifund at (888) 650-7316.