100% financing is buying a home with zero down payment.
No savings are required. The bank completely finances the purchase of your new home. All you have to worry about is your monthly mortgage payments. Sounds great, doesn't it?
These loans have the potential to allow buyers to secure a property that other banks would not consider offering them a loan on. And in Cayman's current real estate market, it is sometimes the only way people can get on the property ladder.
But is it too good to be true? What's the catch?
Unfortunately, there is a darker side to these enticing mortgages, which many overlook.
Zero down mortgages are wildly more expensive than a traditional loan. This is because the rate at which the bank will charge you interest is much higher. So what you end up paying the bank in total interest (the amount of money paid on top of the purchase price over the term of the loan) is much greater.
Below is a side by side comparison of 100% financing and a standard loan. This example is based on recent rates to finance an Isabela Estates land lot, listed at CI$31,700 in the Cayman Brac.
The bank is assuming greater risk when offering 100% financing. As a result, they charge a higher interest rate to ensure they make their money back. So while you don't have to provide funds upfront, you ultimately pay more for the property.
The interest rate and the total interest over the loan term are just two factors you need to consider when comparing financing options. For general information on mortgages, I encourage you to read my previous blog: Mortgages in Cayman.
Added Time and Stress
In my experience, the institutions offering 100% financing mortgages end up delaying property sales. The length of time between when your Offer is accepted to the Closing day will be considerably longer and often more stressful - for all parties involved.
If it is not a local Class A Bank in the Cayman Islands, even "pre-approvals" do not always guarantee you a loan. Your loan application must cross multiple desks, and in some cases, go off-island before they can confirm your loan.
Unattractive Offers to Sellers
Sellers will be comparing your Offer to Purchase to others. Of course, price tends to be the most significant deciding factor, but the number of conditions, the timeline to Close, and the type of financing can influence whether a seller accepts an offer.
The time and stress that accompany 100% financing mortgage loans could deter sellers from accepting your Offer. In short, the financial institution you select can put you at a disadvantage.
As a buyer, this can feel discriminatory. Why should the seller care where you are getting your funds from? Put yourself in the Seller's shoes. If they can finalize the sale of their property within two months versus four months and avoid unexpected issues, delays, and worries, then of course, they are going to proceed with the most uncomplicated Offer. They have to mark their property off the market while you work through your conditions – time that can be wasted if your mortgage is not approved.
Deposit Still Required
A deposit, or what some may call earnest money, is how buyers show sellers they are not just wasting time. It is like a security deposit on the sale itself - if the sale goes through, you get your money back if you’re approved for 100% financing. However, you still need to have the funds in your account, ready to put down when you make your Offer to the seller. These funds are then held in escrow (a special holding account) until the property transaction is complete. Unfortunately, it is not uncommon, especially for first-time buyers, enticed by 100% financing from the bank, to overlook needing funds for the deposit.
Failure to Close on a Property
In my experience, lender guidelines and requirements for 100% financing are constantly changing. And as the Buyer, you have signed a legal contract with the Seller, making it highly stressful and risky when delays occur and the processing is out of your control. Whatsmore, even though an offer is accepted, the Seller can still walk away from the deal if the conditions and deadlines are unmet. In short, you risk losing your deposit and the property if your selected financial institution does not deliver as promised.
Increase Risk of Defaulting
Many new home buyers wonder why most loans require a down payment. Why can't the bank finance 100% of the home's purchase price? Why is a deposit needed? It all comes down to risk. Lenders want to know that they will not only be paid back but will make money by investing in your property purchase.
Numerous studies have shown that the higher the down payment on a property, the lower the likelihood of the borrower defaulting on the loan. Without putting any money down, 100% financing can entice people to purchase properties beyond their means. As a result, they find themselves overextended each month, struggling to make their mortgage payment. So much so that the down payment amount is becoming the single most important factor when the bank determines risk especially with no Credit Score system established in the Cayman Islands. It demonstrates the Buyer's ability to save, giving the bank confidence in their ability to pay back the loan. That is why, years ago, the standard down payment amount in the US became 20%. Anything less than that requires insurance, so the lender would get their money back if the borrower failed to pay back the loan.
In short, a higher down payment gives the lender more comfort. But it also usually means a lower interest rate for you and fewer years for the interest to be amortized, saving you money in the long term.
Widening the Affordability Gap
100% financing mortgages are aimed at helping people get on the property ladder. But in actuality, they can end up perpetuating sellers' markets. By inflating both the number of potential buyers and their budget, no money down loans continue to drive up property pricing.
The Take-home Message
Buying a property, whether it be your first or not, is a process that can be overwhelming at times. A mortgage is a long-term commitment, and the fine print is extremely daunting even for the savviest of real estate investors. So please do not be embarrassed to ask questions. Do your homework. Compare banks, interest rates, and how they process loans.
Before signing any loan document, ask yourself these questions:
- If you lose your job, could you still afford the mortgage payments?
- Property values go up and down. In a down market, because of the interest owed, your mortgage balance will likely be higher than the home's value. This means you may not even break even if you had to sell urgently. Are you willing to take this risk?
- There are selling costs. If the value of the property is down, these costs will come out of pocket. Will you have the funds to cover the these costs in a down market?
- Are there costs to terminating your mortgage early? Read the loan contract fine-print.
- Have you really consider the costs of owning a home? Your monthly mortgage payment is just the beginning. Then, there are utility bills and regular maintenance. And trust me, you need to expect unexpected repairs.
To get a rough estimate of how much you could afford, and what your monthly mortgage payments would be, check out our mortgage calculator.
100% financing can be a blessing or a financial risk. Educate yourself on all your lending options ahead of considering properties. Not only will understanding how much home you can afford help narrow your property search, but it will also put you in the best position when you do find the right home for you.
Purchasing a property is one of the most significant financial decisions you will make in your life. So let's chat candidly about the numbers and what they really mean for you.
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From property valuations to financing, and purchase offers, buying a home can feel overwhelming, but it doesn’t have to be. Island living, it’s literally what we do for a living.