I can do a 20% down, but why not 3.5% FHA? Please Help

[David Levy]

Hi all,

I've been a "renter" all my life and finally buying a townhouse in state of NJ to live in. 

After reading a lot about putting my money to work and I do have over 130k to work with, I am now thinking if I should avoid doing the 20% down payment (70k) on my new townhouse and instead do the 3.5% FHA loan and use my savings for buying rental properties.

Where I live, I can get a 

Studio for 140k and rent it for about $1,200-1,300

1 Bedroom for $200k and rent it for $1,500-1,600

Bottom line is ... at just 3.7% APR loss, I can put my money into more properties or even places like mutual funds where it may be making me 7%+.

Thoughts? Thank you.

[Chris Mason]

MATH TIME MOTHERTRUCKERS.

• $350k purchase price, going to use California numbers because that's what I know.
• 20% down conventional v 3.5% down FHA.
• $70,000 out of pocket v $12,250 out of pocket (let's pretend closing costs are identical, so only the down payment changes).
• What is the cost of keeping that $57,750 in your pocket? 
• 20% down: PITI is ballpark $1991.
• 3.5% down: PITI is ballpark $2442.
• $451 month difference, to keep $57,750 in your checking account.
• What does it cost to borrow this extra $57,750?
• $451 * 12 / $57,750 = 9.37% effective marginal interest rate to borrow that extra money!
• Keeping that $57,750 in your pocket is mathematically nearly identical (less any applicable tax advantages, among other things) to taking out a second mortgage for $57,750 at 9.37% after putting 20% down.

Are you really going to put that $57,750 to work elsewhere earning you better than 9.37%? 

I don't know the answer to that, only you do, but that's the question before you. And keep in mind that doing 20% down is a guaranteed marginal 9.37% compared to 3.5% down which is a speculative 9.37%.

Does that mean I hate FHA 3.5% down? No, absolutely not! But borrowers that have the option should be aware of the true cost of that money they are keeping in their checking account, so they can make an informed decision.