Piggyback Loans (80-10-10 Loans)
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What You Should Know
- Piggyback loans incorporate two loans: a mortgage loan and a down payment loan.
- The most common piggyback mortgage loans for a house allocate 80% for a mortgage and 10% for a down payment, but some lenders may be willing to issue from 5% to 15% for the down payment.
- Piggyback loans have higher requirements to qualify as lenders usually look for a credit score of at least 740 FICO points and debt-to-income ratio of less than 43% including loan payments.
- If a borrower does not qualify for a piggyback loan, they should also look at government-backed loans and local down payment assistance programs.
What Is a Piggyback Loan?
Piggyback mortgage is a type of mortgage that consists of two separate loans. One loan usually accounts for 80% of the house value and another is 10% of the house value. This way, a borrower can get a mortgage on a property with 20% down payment and paying only 10% down.
| Pros And Cons of Piggyback Loans | |
|---|---|
| Pros | Cons |
| Avoid PMI Premiums | Higher Closing Costs |
| Interest Payments Are Tax Deductible | Higher Interest Rate on a Down Payment Loan |
| Helps Meeting Jumbo Loan Requirements | Higher Restrictions |
| Difficult to Refinance | |
This mortgage type is very helpful to individuals who would like to get a 30-year mortgage, but they do not have 20% down payment to be eligible for this mortgage length. In this case, the only way for them to get a mortgage is to get another loan that would cover the part missing for the down payment. Usually, banks provide this solution in one package called a piggyback loan or 80-10-10 loan. In this package, the bank provides two separate loans for 80% of the home value and 10% of the home value, and the other 10% comes from the borrower. Even though it is called an 80-10-10 loan, the proportions of the loans are not very strict. It is possible to agree on a loan where the lender provides 15% of the home value for the second loan (80-15-5 loan), or where the lender provides only 5% of the home value for the second loan with the borrower covering 15% remaining (80-5-15 loan).
These loans have been primarily used to avoid costly private mortgage insurance that is required for conventional loans whenever the loan-to-value (LTV) ratio of a mortgage is over 80%. Monthly premiums of private mortgage insurance (PMI) may range from 0.55% to 2.25% of the principal. Instead of paying PMI premiums, using a piggyback loan, an individual can borrow 5% - 15% as an additional loan and pay interest rates on the principal on that loan.
Pros And Cons of Piggyback Loans
A piggyback loan is a good strategy for people who would like to take advantage of a 30-year mortgage, but who do not have enough money to cover the 20% down payment. On the other hand, it comes with certain risks that conventional mortgages do not have. A borrower should consider the advantages and disadvantages of the loan before choosing it.
Pros:- Avoid PMI Premiums
One of the main reasons why some people get piggyback loans is to avoid costly private mortgage insurance premiums that may cost 0.55% to 2.25% of the principal amount annually. These fees may be quite hefty especially for people who are lower to middle income earners. Using a piggyback loan, a borrower may pay lower monthly payments on the loan. Even though the loan that is used to cover the down payment may have a higher interest rate than PMI premiums, the interest rate is paid only on the principal of the loan, not the principal of the mortgage. Because of that, there is a good chance to save some money in interest expenses over the lifetime of the loan.
- Interest Payments Are Deductible
Homeowners filing their tax returns can deduct interest payments from their income. Since a piggyback loan provides two separate loans, a mortgage and a loan for down payment, a borrower can deduct interest expenses from both loans. On the other hand, PMI premiums are mostly not deductible. Because of that, a piggyback loan provides an extra benefit in the form of tax credits.
- Meeting Jumbo Loans Requirements
Jumbo loans are the loans that exceed the mortgage amount limit for conventional loans. Conventional mortgages are usually restricted to the amount they can lend out to a household. As of 2021, the baseline limit for conventional mortgages is $548,250, which is used in most counties in the US. This limit is set by the Federal Housing Finance Association (FHFA). Jumbo loans are the loans that have a mortgage amount that is higher than the limit set by the association. The unique feature of jumbo loans is that they usually require a minimum 20% down payment regardless of whether a borrower has private mortgage insurance or not. Additionally, since jumbo loans are larger than conventional loans, the down payment on these loans is usually larger. A piggyback loan can be a great way to meet the down payment requirements and qualify for jumbo loans if a borrower does not have enough money saved up to cover the down payment.
- Extra Closing Costs
There are fees associated with originating a loan. Typically, closing costs range from 3% to 6% of the principal amount. Some fees are fixed and are not charged in proportion to the principal, so the smaller the loan amount, the higher closing costs are in proportion to the principal. Because piggyback loans incorporate 2 separate loans, a borrower is likely to pay higher closing costs to finance their property.
- Higher Interest Rate on the Loan for Down Payment
A borrower should expect a higher interest rate on the loan for the down payment. There are multiple reasons why a loan for a down payment bears a higher interest rate. The first reason is that it is not considered a mortgage. Mortgages usually have the lowest interest rates out of all loan types available. Since a loan for a down payment is not considered a mortgage, it bears an interest rate that is higher than a mortgage rate. Additionally, the second loan contributes to an increase in debt-to-income (DTI) ratio of a borrower. Because of that, lenders are likely to perceive a borrower more risky, and they will require a higher interest rate. Lastly, if a borrower is offered a packaged deal for both loans, the lender offering such a deal is likely to try to gain extra return through increased interest rates.
- Higher Restrictions
Not everyone may be able to qualify for a piggyback loan because it usually requires a very high credit score. Piggyback loans typically require a very good or exceptional credit score. This means that a borrower must have a credit score of at least 740 FICO points to qualify. This is a very high restriction compared to conventional mortgage loans. A conventional mortgage loan usually requires a credit score of 620 FICO points to qualify. It is also possible to buy a house with a bad credit through government-backed mortgage loans. The lowest credit score required for these types of loans is only 500 FICO points.
- Difficult to Refinance
Usually a lender who provides a loan for a down payment has a second lien on the property bought. Generally, a lender who holds a second lien on the property has to agree to receive the proceedings after the mortgage lender. If the lender does not approve refinancing, then the borrower must pay off the loan before they can refinance the mortgage with someone else. If the borrower cannot pay off the loan in full, then it is likely that they will not be able to refinance the mortgage.
How to Qualify for a Piggyback Loan?
Not everyone may be able to qualify for a piggyback loan because the requirements to get it are much more strict than the requirements for a conventional loan. There are two main factors that lenders look at when making a decision, so borrowers who consider getting a piggyback loan should ensure that they meet these requirements before looking for an appropriate lender.
- Minimum Credit Score
The minimum credit score for piggyback loans is usually 740 FICO points. It might be possible to find a lender who is willing to approve a mortgage request with a credit score of 700 FICO points, but it is rare and an interest rate may be much higher. If a borrower has a credit score of 700 but does not need to purchase a house urgently, then it might be a good idea to build the credit score before getting a loan.
- Debt-to-Income Ratio
Lenders usually require a debt-to-Income Ratio to be less than 43% for a piggyback mortgage loan. Debt-to-income ratio looks at the ratio of total monthly debt payments to total monthly income. It is important to note that the lenders require this ratio to be less than 43% including monthly payments for both mortgage loan and down payment loan. This means that a borrower must have an even lower debt-to-income ratio when applying for a loan. Additionally, lenders tend to set a higher interest rate the higher the ratio is.
Other Mortgage Options
Piggyback has a high credit score and a debt-to-income ratio requirements. Because of that, many borrowers who do not have enough to cov loans may be prohibitive for some borrowers due to their restrictions, specifically due to their higher 20% down payment may not be able to qualify for this type of loan, so they should look for alternative ways of getting a mortgage. Because of that, many borrowers who do not have enough to cover loans may be prohibitive for some borrowers due to their restrictions, specifically due to their higher 20% down payment may not be able to qualify for this type of loan, so they should look for alternative ways of getting a mortgage. One alternative is a seller carry back loan that works in a similar way to piggyback loans, but the seller plays the role of a lender for a second loan. Even people who qualify for a loan may find it beneficial to look through all options to ensure that they are getting the best mortgage solution for their personal objectives. Borrowers should look for the following options to decide what program fits them the most.
- Government-Backed Mortgage Loans
Government-backed mortgage loans such as FHA loans, USDA loans and VA loans are a good option to purchase a house without having enough to cover 20% down payment. They all have different requirements to qualify.
FHA loans are backed by the Federal Housing Administration, and they provide loans to first-time home buyers. This loan has lower qualifying requirements than conventional loans. For example, a borrower who would want to get an FHA loan needs to have a credit score of at least 500. FHA loans also require a minimum down payment of 3.5%, but it requires private mortgage insurance as long as the LTV ratio is higher than 80%.
USDA loans are available for home buyers who are looking to purchase a property in a rural area of the USA. USDA loans are backed by the US Department of Agriculture. Borrowers who get a USDA loan can get a mortgage with 0% down payment, and it does not require private mortgage insurance. There are certain requirements that a borrower has to meet to qualify for the loan such as a debt-to-income ratio of less than 41% and credit score of at least 640 FICO points. Even though USDA loans do not require private mortgage insurance, there is a mortgage initiation fee that might cost a bit more than the fee for initiating a conventional loan.
VA loans are backed by the Department of Veteran Affairs, and they provide affordable mortgages for eligible veterans and servicemen. Borrowers who get a VA loan can get a mortgage with 0% down payment without any private mortgage insurance requirements. On the other hand, borrowers need to ensure that a house they are buying is eligible for the loan. Additionally, they have to pay an origination fee that might be higher than the fee for conventional loans.
- Local Down Payment Assistance Programs
Many states offer down payment support programs to help individuals purchase their homes. All programs are different and depend on the state and the goals they are trying to achieve with the programs. Depending on the program, it might be possible to receive a loan for a down payment or even monetary assistance to cover down payment in some states.