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Purchase Money Mortgage: The Different Types and How They Work

purchase money mortgage

A “purchase money mortgage” is a home loan used to purchase a piece of property, whether it be a principal residence, a second home, or an investment property.

If you’re looking to buy a home, you’ll generally need to apply for a purchase money mortgage to obtain financing, unless of course, you plan to pay with cash.

Most of us aren’t lucky enough to have the necessary amount of funds on hand to buy a home outright, so we must turn to a bank or mortgage lender for financing.

Purchase Money Mortgage Loans Are Easier to Qualify For

  • Purchase mortgages have the most flexible underwriting guidelines
  • Including the highest LTV limits available
  • And the lowest credit score requirements
  • Home purchase interest rates may also be cheaper than refinance rates

The good thing about home purchase loans is that they generally come with the most flexible mortgage underwriting guidelines relative to refinance loans.

In other words, you’ll be able to borrow the most amount of money at the highest loan-to-value ratio (LTV ratio) if the purpose of the loan is a home purchase.

For example, the FHA allows home purchase financing with as little as 3.5% down, and specialty programs such as Fannie Mae’s HomeReady program only require 3% down, with gifts or grants permitted to cover the small down payment.

You can also get USDA loans and VA loans with no money down.

Conversely, those looking to pull equity from their homes via a cash-out refinance may be limited to 80% LTV or lower, with higher credit score requirements to boot.

At the same time, the credit score requirement for a purchase money mortgage will likely be the lowest out there.

Purchase Mortgages Come with Lower Interest Rates

  • Purchase mortgages often come with rebates or other pricing incentives
  • So the interest rate is often lower on a purchase home loan
  • Relative to a comparable refinance loan
  • Which may include pricing adjustments to account for more risk

Another benefit of a purchase money mortgage loan is that the associated mortgage interest rate will be lower than that of a refinance.

When you refinance your existing mortgage, mortgage lenders typically hit you with a pricing adjustment, which will increase your mortgage rate and/or closing costs to some degree.

With a purchase money mortgage, there won’t be a pricing hit, and you may even be entitled to a pricing rebate. Sometimes lenders offer purchase specials, such as a .25% credit to help cover some of your closing costs.

Similar to any other type of home loan, a purchase mortgage may come in the form of a fixed-rate mortgage or an adjustable-rate mortgage, with varying terms, such as 30-year and 15-year options.

You can also get a second mortgage at the time you take out the first mortgage – this is known as a piggyback second, or a purchase money second mortgage.

Typically, these come in the form a home equity loan/line, often from a different bank than where you get your first mortgage. However, both loans must close concurrently.

This is one way to put less down on a home purchase, while also avoiding mortgage insurance if you keep the first mortgage at or below 80% LTV.

A first mortgage kept at or below 80% LTV should also result in a lower interest rate, assuming a single high-LTV loan is the alternative.

Tip: If you do use a purchase-money subordinate mortgage to obtain financing, it can later be refinanced with your first mortgage and be considered a rate and term refinance (as opposed to a cash out refi), which may result in more favorable and/or higher LTV limits.

Real Estate Agents Strongly Influence Where You Get Your Purchase Mortgage

  • Many home buyers use their real estate agent’s recommended lender
  • Without speaking to other lenders or shopping interest rates
  • Don’t feel obligated to use their preferred bank or lender
  • And certainly don’t limit your search to a single lender or rate quote

If you’re in the market for a home purchase mortgage, be sure to do plenty of shopping. I’m going to assume you didn’t buy the first house you came across.

The same should be true for the first mortgage rate quote you receive. Sure, it might be the best out there, but it’d be foolish not to take a moment to see what else is out there.

While your real estate agent may have their preferred lender, and the home seller may have theirs, it’s important to get some independent quotes as well to see how they stack up.

Try your local bank, rival banks, credit unions, and mortgage brokers to obtain mortgage rates and to compare available loan programs.

There are seemingly endless scenarios, so be sure to exhaust all your resources, as buying a home is likely going to be one of the most significant financial decisions you’ll make in life.

For that reason, make sure you choose a reputable mortgage lender, not just the bank that supposedly offers the lowest rate.

You can get away with a few mistakes on a refinance, but a home purchase has a strict timeline that must be met. Errors can be costly and extremely stressful, and you certainly won’t want to lose the home because you made a bad lender decision.

Even if you don’t wind up loving your loan, you can always refinance after the fact. But if you lose the home, you might not find another like it.

Note: A purchase money mortgage may also refer to seller financing, in which the home seller provides some of the financing to enable the buyer to purchase the property who may not otherwise qualify.

Colin Robertson

3 thoughts on “Purchase Money Mortgage: The Different Types and How They Work”

  1. Hey Colin,

    My wife and I located a piece of property, which we would like to construct a new home. Actually we are seriously considering a modular home. The property cost is $100,000 and the modular is $275,000 (5 bedroom). Our local bank is offering a construct/perm. My co-worker told me that he bought land and put a modular up using a partial purchase money mortgage. I was a bit confused after his explanation which is why i turned to social media for some independent opinions. My coworker stated that the ppm mortgage was for $400,000, $135,000 being purchase money, and the remaining funds deemed future advances. What are your thoughts? thanks

  2. Robert,

    It sounds like you’re talking about the same thing more or less. Might want to ask him for program specifics and/or where he got the loan so you can speak with his bank as well.

  3. I’ve always thought a PMM was for seller financing to accommodate a buyer with a situation that would prevent a conventional mortgage. But I see now that banks will issue a PMM. Would you consider a sale of a home where the buyer is issued a PMM an arm’s length transaction?

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