80-10-10 Mortgages

What does 80-10-10 mean?  The 80 stands for an 80% First Mortgage;  the 10 stands for 10% Second Mortgage and the last 10 stands for the 10% down payment from the consumer.  This is done quite simply to avoid PMI (Private Mortgage Insurance).   Banks typically require 20% down from someone when purchasing a home… the problem is that as homes became more expensive, it becomes unrealistic for some to come up with that type of cash.  The 80-10-10 is a way to take advantage of low Conventional 30 year fixed rates without PMI.  The second mortgage is typically held at the bank and usually has a 1-3-5 or 7 year lock rate.  This only works (in my mind) if you can aggressively pay off the 10% second.  Ideally, this second has a 15 year (or even 10 year) amortization is best to gain the most EQUITY on your homestead.

First off… I do think PMI has its place… you are able to get a very low rate on your ENTIRE mortgage balance and don’t have to worry about rate fluctuations with a second mortgage.  For someone who is looking to ONLY pay the minimum payment… going with a 90% LTV (including PMI) is probably the way to go.  Example:  $200,000 purchase… 90% LTV with PMI = $180,000 mortgage at 5% 30 year fixed rate (subject to change… 2/12/09 rates) = payment of P+I = $970 + PMI of $85 for a total payment of $1,055.  Balance after 5 years is $165,000.  To eliminate PMI, one would have to submit a request to the mortgage company, pay for a new appraisal and potential processing fee for a total cost of $300 – $500 total to eliminate PMI down the road.

The example of the 80-10-10… $200,000 purchase.  $160,000 First mortgage (80%) 5 % 30 year fixed (rates subject to change… 2/12/09 rates) = payment of $860.  Second Mortgage (10%) of $20,000 at 6% 3 year term with payment of $195 (12 year amortization) and the consumer would put in the additional $20,000 to purchase the home.  Total payment is $1,055.  The key is in 5 years!  The balance of the first mortgage would be $146,850 while the balance of the second loan is down to $13,370… “for a total amount owed on their home of $160,000.  If the consumer could have paid $250 per month on their second… they would have paid it down to $9,530 in 5 years (or additional equity of approximately $4,000).  This plan only works when the consumer is aggressive in paying down that second mortgage.  We have interest rate risk involved in that second mortgage; if the balance after the initial lock period is high… you could see 7% – 8% or even 10% down the road making this a bad decision.  By reducing the balance of the second mortgage quickly…rate fluctuations won’t matter as much.