How an 80-10-10 Loan Works
Homebuyers should ideally make a down payment of at least 20% and obtain a mortgage for no more than 80% of the home’s purchase price. If you get a conventional loan and don’t make a down payment of that amount, you’ll ordinarily need to pay private mortgage insurance (PMI). If, say, you make a down payment of only 10%, you’ll need to get a mortgage with PMI for 90% of the home’s purchase price. The 80-10-10 loan allows borrowers who can’t make a 20% down payment to avoid paying PMI, as the second mortgage supplements the down payment by 10%. It also allows homebuyers to get a high-priced home without the need for a jumbo loan. With an 80-10-10 loan, the borrower still obtains financing for 90% of the home’s purchase price, but they do so by taking out two mortgages at the same time. The first loan is the main mortgage for 80% of the home’s purchase price, issued at a standard interest rate. The second loan is for 10% of the purchase price and typically takes the form of a home equity loan or home equity line of credit (HELOC) with a variable (and typically higher) interest rate. The borrower makes a down payment for the remaining 10% of the purchase price. For example, let’s say that you buy a home with a purchase price of $300,000. Under an 80-10-10 loan, you might take out a main mortgage for $240,000, a HELOC for $30,000, and make a down payment of $30,000.
Advantages and Disadvantages of 80-10-10 Loans
These loans have their advantages and drawbacks:
Advantages Explained
The pros of an 80-10-10 loan include:
Keeps you from paying mortgage insurance: The main benefit of getting a piggyback loan is that it spares you from the costly PMI that is typically assessed on conventional home loans when you don’t make a down payment of at least 20% of the home’s purchase price. PMI is usually added to your total monthly loan payment to your lender. It may force you to reduce your spending on other important monthly expenses. Avoids the need for a jumbo loan: If you have your eye on a high-priced home but have either a high income that isn’t readily available (from a new job, for example) or high-value but illiquid assets, the second loan in an 80-10-10 loan arrangement can boost your borrowing power so that you don’t have to take out a jumbo loan. This is a loan that allows borrowers to exceed the federal loan limits, but it can be difficult to find as well as require a high down payment.
Disadvantages Explained
Among the cons of an 80-10-10 loan are:
Variable interest rates on the second loan: The interest rate for the first mortgage may be fixed or variable. The interest rate of the second mortgage or home equity loan is a higher rate that is usually variable and changes with the level of interest rates in the economy. A variable interest rate can be a disadvantage during a period of rising interest rates or inflation. If your rate rises, so will your loan costs. Difficulty in refinancing: The 80-10-10 loan is difficult to refinance because the lenders of both the first and second mortgage (assuming they are different) have to agree to the refinancing. You may have an even harder time convincing both lenders to refinance if the value of your home has declined.
Requirements for an 80-10-10 Loan
During the housing boom in the 2000s, growing home prices and lax underwriting standards made this type of loan widely available, and with lax requirements. Minimal down payments were required, meaning that a home could be financed almost in full. But such lax measures also led to higher rates of mortgage default when market conditions declined. Banks and other lenders have since tightened up their lending standards, and applicants are screened more thoroughly. Below are a few requirements to keep in mind when applying for an 80-10-10 loan:
Credit score: Your credit score will dictate the interest rate and terms you receive on the first and second loans. Lenders typically require a FICO score of at least 620 for those seeking a second mortgage, which is the same minimum score you’ll need for a conventional home loan. But historically, second-mortgage holders have been more creditworthy than those with a single lien. This is in part because of the higher risk for the lender with a second mortgage; a decline in the value of a home may mean that the collateral won’t be enough to cover the second lien after the first lien has been paid off.Financial documentation: The borrower should be prepared to supply information to the lender such as their income and the market value of the home. Two sets of documentation may even have to be provided as it is possible that the first mortgage and second mortgage or home equity loan would be provided by two different lenders. Those two different lenders could also ask for different types of documentation.Debt-to-income ratio: As with a first mortgage, your debt-to-income ratio (your monthly debt divided by your gross monthly income) should be no more than 43% to secure a second mortgage.
80-10-10 Loan vs. PMI
Lenders may recommend a piggyback loan as an alternative to paying PMI, but they’re not the same offering. Namely, an 80-10-10 loan is a loan structure that homebuyers can use to avoid paying PMI. In contrast, PMI is a type of mortgage insurance you may have to get with a conventional loan if you make a down payment of less than 20% of the home’s purchase price, and the lender handles mortgage insurance through a private company. The insurance provides lenders the assurance that if a home goes into foreclosure, the lender won’t take a loss. PMI is an extra charge that is typically added to the borrower’s monthly mortgage payment. It usually amounts to a small percentage of the amount of the main mortgage—anywhere from 0.25% to 3%—which may be manageable for a small mortgage but can be a burden with a large mortgage. This makes an 80-10-10 particularly attractive to borrowers who are interested in high-dollar mortgages but can’t cover a typical down payment. That said, the interest on the second loan in the 80-10-10 loan may be higher or lower than the PMI on a conventional loan, depending on factors such as how long you stay in the home. This means an 80-10-10 mortgage might be more expensive than a conventional loan with PMI in certain cases. Borrowers should do their due diligence and get an estimate of the total loan costs under each scenario to decide which is more affordable.
