# Understanding Down Payments: Definition, Requirements, and Benefits

> **Definition**
>
> A down payment is an upfront sum a buyer pays when purchasing a significant asset such as a home or car, which reduces the amount financed and can lower interest costs and monthly payments.

## What Is a Down Payment?

A down payment is a sum a buyer pays upfront when purchasing an expensive good such as a home or car. It represents a percentage of the total purchase price, with the remainder paid by a lender.

Downpayments of up to 20% are common for car and house purchases. A larger down payment can significantly reduce the amount the borrower owes to the lender, the amount of interest they will pay over the life of the loan, and their monthly payment amounts. A borrower's credit score and income will also affect the type of loan that they can qualify for.

### Key Takeaways

*   A down payment is an upfront payment made when purchasing expensive items like homes or cars.  
    
*   A larger down payment reduces the loan amount, interest costs, and monthly payments.  
    
*   The average first-time homebuyer pays 6% of the home's price as a down payment.  
    
*   Minimum down payments for home loans vary, starting as low as 3% for conventional loans.  
    
*   For car purchases, a 20% down payment is common to reduce the owed amount as the car depreciates.

![Down Payment: A sum a buyer pays upfront when purchasing an expensive good.](https://www.investopedia.com/thmb/lL8KyYqP89KjHQrrmZl9OxtFYNU=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/down_payment.asp-final-569b6192247a427c8e3885ad7f502587.png)

*— Investopedia / NoNo Flores*

## Understanding the Role of Down Payments

Buyers commonly pay a down payment when purchasing a home or car. The average first-time home buyer pays 6% of the home price as their down payment and takes out a [mortgage](https://www.investopedia.com/terms/m/mortgage.asp) from a bank or other financial institution for the remainder.

For car purchases, it is common to pay a down payment of at least 20% of a new car's price. Because the value of a car depreciates quickly, a high down payment ensures buyers do not owe more than the car is worth after a year or two. Like mortgages, car loans often carry interest, and a down payment reduces the interest paid over the life of the loan.

## Different Types of Down Payments for Major Purchases

### Down Payments for Home Purchases

In the United States, [a 20% down payment on a home](https://www.investopedia.com/what-is-the-optimal-downpayment-11774040) has been the standard.  A [larger down payment can be beneficial](https://www.investopedia.com/articles/personal-finance/042215/using-your-savings-mortgage-down-payment.asp) as it helps secure better loan interest rates and terms, influenced by the buyer's [credit score](https://www.investopedia.com/terms/c/credit_score.asp), income, and debt-to-income ratio.

In 2023, [Fannie Mae and Freddie Mac](https://www.investopedia.com/articles/economics/08/fannie-mae-freddie-mac-credit-crisis.asp) set rules for conventional home loans with a minimum down payment of 3%. [FHA loans](https://www.investopedia.com/terms/f/fhaloan.asp), which assist low- to moderate-income families in buying homes, require a minimum 3.5% down payment. The lowest down payment options often come with income limits.

> **Fast Fact**
>
> In May 2023, upfront fees for Fannie Mae and Freddie Mac home loans changed. Fees were increased for homebuyers with higher credit scores, such as 740 or higher, while they were decreased for homebuyers with lower credit scores, such as those below 640. Another change: Your down payment will influence what your fee is. The higher your down payment, the lower your fees, though it will still depend on your credit score. Fannie Mae provides the Loan-Level Price Adjustments on its website.

> **Tip**
>
> Find loan options from the best mortgage lenders.

### Down Payments for Auto Purchases

For [car purchases](https://www.investopedia.com/how-much-down-payment-is-needed-for-a-car-5184453), a down payment of 20% or more can make it easier for a buyer to be approved for a loan and get a better interest rate and other terms. Car dealers may also offer promotional terms of [0% down](https://www.investopedia.com/articles/company-insights/083016/heres-how-get-car-no-down-payment.asp) for buyers who qualify. While that means no down payment is necessary, the lender may charge a higher interest rate.

> **Important**
>
> A down payment of 20% or more may get you a lower interest rate on an auto loan.

## Advantages of Making a Larger Down Payment

A large down payment reduces both the total interest paid and the monthly payments on a loan.

*   **Interest:** A $100,000 loan with a 5% interest rate means $5,000 in interest in the first year. However, with a $20,000 down payment and a loan of only $80,000, first-year interest will be just $4,000. For a 30-year mortgage loan, borrowing $100,000 at 5% interest costs $93,256 in interest. Borrowing just $80,000 saves nearly $20,000, with a total interest cost of $74,605.
*   **Monthly Payments**: A larger down payment reduces monthly payments. A $100,000 loan at 5% interest carries monthly payments of $537, while an $80,000 loan has a payment of $429.
*   **Mortgage Insurance:** [Private Mortgage Insurance (PMI)](https://www.investopedia.com/mortgage/mortgage-guide/mortgage-insurance/) is usually required when you have a [conventional loan](https://www.investopedia.com/terms/c/conventionalmortgage.asp) and make a down payment of less than 20 percent of the home’s purchase price. PMI serves to protect the lender if the buyer stops making payments on the loan. Borrowers can request the lender [drop the PMI requirement](https://www.investopedia.com/how-to-remove-pmi-from-your-mortgage-8623031) once the [equity in the home](https://www.investopedia.com/terms/h/home_equity.asp) reaches 20%.

## Strategies for Paying Off a Loan Faster

Homeowners who can't afford a large down payment can make extra payments toward their mortgage principal, lowering both the loan amount and interest over time. This is often referred to as making [accelerated payments](https://www.investopedia.com/terms/a/acceleratedpayments.asp) or [accelerated amortization](https://www.investopedia.com/terms/a/accelerated-amortization.asp). Buyers may choose to [refinance their mortgage](https://www.investopedia.com/mortgage/refinance/when-and-when-not-to-refinance-mortgage/) if their finances improve and make a larger down payment on the new loan.

## Is a Down Payment the Same As a deposit?

In most cases, yes. Down payment and deposit are often used interchangeably. Both terms refer to the same process of providing an upfront payment as a percentage of a total sale.

## Why Is It Important to Have a Down Payment?

A down payment will reduce the loan amount, interest cost, and monthly payments. The amount of the down payment may also reduce the interest rate provided by the lender.

## Why Do Lenders Require Down Payments?

Downpayments reduce the risk for lenders. Not only do they reduce the amount of money that needs to be lent out; by acting as the "cost of entry" for a loan, but a downpayment can also be used to prove that the borrower is serious about a loan.

## The Bottom Line

A down payment is a sum a buyer pays upfront when making a large purchase. Most lenders demand a fixed percentage of the purchase price, but a larger downpayment will reduce the amount you pay over the lifetime of the loan. Large downpayments can also qualify you for larger loan amounts, because they reassure the lender that you have enough collateral to justify the risk. Home buyers and other borrowers should carefully consider the amount of money they can spend on a downpayment to reduce their total spending.

> **Article Sources**
>
> 1.  Rocket Mortgage. "[What Is the Average Down Payment on a House?](https://www.rocketmortgage.com/learn/what-is-the-average-down-payment-on-a-house)"
>     
> 2.  Progressive Insurance. "[Down Payment on a Car](https://www.progressive.com/answers/car-down-payment/)."
>     
> 3.  Lending Tree. "[Minimum Mortgage Requirements in 2023](https://www.lendingtree.com/home/mortgage/minimum-mortgage-requirements/#:~:text=The%20minimum%20down%20payment%20is,types%20of%20FHA%20mortgage%20insurance.)."
>     
> 4.  Fannie Mae. “[Loan-Level Price Adjustment Matrix](https://singlefamily.fanniemae.com/media/9391/display),” Page 2.