Today’s housing market is challenging for prospective homebuyers. High prices and elevated mortgage rates are pricing many out of the market—or at least out of conventional mortgage financing.
The ongoing housing shortage in the U.S. has driven up prices on the limited inventory available. Meanwhile, mortgage rates have surged, climbing from around 3.25 percent for a 30-year fixed rate at the end of 2021 to 8 percent by late 2024. As of mid-May, Bankrate’s latest survey of large lenders showed an average 30-year fixed rate of 7.12 percent.
Fortunately, if you can’t qualify for a conventional mortgage or simply want to explore all your options, there are other, less traditional financing methods available. Here are six alternative and creative home financing ideas for eager homebuyers to consider. (Keep in mind that some of these options carry a certain amount of risk, so assess your financial situation carefully.)
1. Down payment assistance programs
Saving for a down payment can be a significant hurdle to homeownership. Fortunately, many state and local governments offer down payment assistance programs, providing a low-risk way to get essential financial help. Each program has its own set of qualifications, but they are typically aimed at first-time homebuyers, individuals with low or moderate incomes, and those who plan to use the home as their primary residence.
Using one of these programs does not eliminate the need for a mortgage, but many offer grants that don’t need to be repaid. Assistance can also come in the form of low-interest or zero-interest loans, deferred-payment loans, or forgivable loans. These forgivable loans often do not need to be repaid if you stay in the home for a specified period.
Nonprofit programs
Similarly, nonprofit organizations also offer assistance programs, often aimed at first-time buyers with incomes significantly below the median in their area and specific eligibility criteria.
One notable example is the Neighborhood Assistance Corporation of America (NACA). NACA provides low-rate mortgages with no down payment, closing costs, or mortgage insurance for low- and moderate-income borrowers who qualify. Instead of relying on credit scores for qualification, NACA uses alternative “character-based” criteria, such as rent payment history.
2. Government loan programs
If you aren’t eligible for a conventional mortgage, consider exploring mortgage programs backed by U.S. government agencies. These options often come with low or even no down payment requirements and more lenient credit score criteria:
VA loans: Guaranteed by the U.S. Department of Veterans Affairs, VA loans are available to active-duty military members, veterans, and some military spouses. These loans typically require no down payment and have low or no minimum credit score requirements for qualified borrowers.
FHA loans: Insured by the Federal Housing Administration, FHA loans have lower down payment and credit score requirements compared to conventional loans, making them especially popular among first-time buyers. However, buyers must purchase mortgage insurance.
USDA loans: Designed to encourage homeownership in rural areas, USDA loans are backed by the U.S. Department of Agriculture. The home must be located in a USDA-approved area. These loans require no down payment and generally have looser credit requirements than conventional mortgages.
3. Balloon and piggyback loans
These unconventional mortgage options have significant disadvantages but can be useful in specific situations:
Balloon Mortgages: A balloon mortgage features a short initial period with low or no monthly payments, followed by a large lump-sum payment, known as the balloon payment, at the end of the term. These are rare due to their riskiness for both borrowers and lenders. You may feel financially comfortable during the initial years, but you must be prepared to pay the full amount at the end. House-flippers often favor these loans because they can sell the house and use the proceeds to cover the balloon payment.
Piggyback Loans: Although less risky than balloon mortgages, piggyback loans also have drawbacks. This type of loan involves taking out two mortgages simultaneously, resulting in two different interest rates, two monthly payments, and two sets of closing costs. Often referred to as 80/10/10 loans, they consist of one loan for 80 percent of the purchase price and another for 10 percent, with the remaining 10 percent paid upfront as a down payment. The main advantage is that piggyback loans can eliminate the need for private mortgage insurance.
4. Rent-to-own
A rent-to-own program, sometimes called a lease-to-buy program, operates similarly to leasing a car. You rent the home for a set period with the option to purchase it later. A pre-arranged contract outlines the terms of the eventual purchase, including the price. If you decide to buy, a portion of your rent payments is typically credited toward the purchase price. This arrangement can be beneficial for those who can’t afford to buy a home yet but are working towards it. However, if property values change significantly or you’re still unable to secure a mortgage at the end of the rental term, you could lose money or face other challenges.
5. Seller financing
In some rare instances, a buyer may be able to secure financing directly from the seller, especially if the seller owns the home outright. This seller or owner financing works similarly to a traditional mortgage, but instead of a bank providing the loan, the home’s owner lends the money and assumes the debt. This can be advantageous for buyers who might not qualify for conventional financing. In some scenarios, buyers might take out a mortgage for part of the purchase price and finance the remainder through the seller. However, these arrangements typically come with much higher interest rates than standard mortgages and often involve a balloon payment.
6. Borrowing from a retirement account
Finally, if you’re really in a tight spot, you might consider borrowing from a retirement account to pay for your home—but it’s a risky move. Taking out a 401(k) loan is generally not advisable. There are typically limits on how much you can borrow, and you could face penalties and taxes. Even though you’re borrowing your own money, you’ll still need to repay it with interest.
Additionally, keep in mind that your 401(k) is tied to your employment. If you leave your job for any reason, you may need to repay the loan faster than expected, or you could face tax and early-withdrawal penalties. Moreover, you can’t borrow from a 401(k) from a company you no longer work for unless you’ve rolled it over into another account.
In Conclusion
If you’re currently unable to qualify for a conventional mortgage, there are various nontraditional methods available to finance a home purchase, or at least contribute to it. However, while some options are backed by reliable government programs, others carry significant risks. It’s crucial to conduct thorough research and select a financing approach that aligns with your unique requirements. Consulting with a financial advisor can also be a wise decision to navigate through these options effectively.