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Mortgages news article
80/20 Mortgages Explained
Lenders who offer 100% financing typically offer them as a loan broken down into two pieces – a first loan for the first 80%, and a second loan to cover the final 20%.
The reason the loan is broken up is that the borrower does not have to pay private mortgage insurance (PMI) on either loan. A typical 100% loan has this PMI charge as an additional charge to compensate the lender for the risk involved in 100% financing. For a lending institution a 100% loan on a property offers them no equity “cushion” in case the value of the property goes down.
Some lenders offer a single 100% mortgages news loan without a PMI payment, but their interest rate is usually higher to compensate them for this.
Typical 80/20 loans have one interest rate for the first 80% and usually a higher rate for the final 20%. Both of these loans have different risk profiles. A lender can sell the two different loans to different types of loan investors – the 80% can be sold to those with a lower appetite for risk, while the final 20% is sold to investors with a higher appetite for risk. The loan for the first 80% gives it the loan first dibs on the property if the loan goes under. They are paid first, and if there is any money left over then the mortgages news final 20% is paid. It is the secondary nature of the final 20% loan that requires a higher interest rate to compensate for this risk.
An 80/20 loan is a loan structure. The loan itself can come in many forms. The first 80% loan can be a regular loan, an interest-only loan, a 30 year fixed loan, a loan that is fixed only for the first 2 years, etc. There are also many different types of loans that the second 20% loan can be. It can have an interest-only feature to keep its cost down.
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