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Buying a home can require a lot of cash. Even if you qualify for a mortgage with a small down payment, you might need money for closing costs, necessary repairs and the move itself. Plus, you might want to set aside money to cover unexpected expenses, and to help cover your new mortgage payments if your income suddenly drops.
Mortgage lenders also want to make sure you have money for these situations. They call this your mortgage reserve, and they may require you to prove that you have enough cash, or cash-like assets, to cover your bills before they approve your mortgage.
What Are Mortgage Reserves?
Mortgage reserves are like an emergency fund for your mortgage payments. They're not always required, and the amount you need can depend on the type of mortgage and the specifics of your situation.
When the lender requires you to have mortgage reserves, you may need to show them proof that you have enough assets to cover up to six months' worth of expected monthly payments—sometimes more.
When Do You Need Mortgage Reserves?
Whether you need mortgage reserves at all and how much you need can depend on:
- Your credit scores
- Your debt-to-income ratio (DTI)
- Your loan-to-value ratio (LTV) and combined LTV (CLTV) ratios
- The type of mortgage
- How many units the property has
- If it's going to be your primary residence
For example, you might not need mortgage reserves if you're getting a conforming conventional loan to buy a single-family home for your principal residence if your credit score is 700, the LTV is over 75% and your DTI is at or below 36%.
However, you might need six months of mortgage reserves if your credit score is lower, such as 660, or if your credit score is the same but your DTI is above 36%. You also more commonly need to have mortgage reserves if you're purchasing an investment property or a property with two or more units.
Speak with mortgage lenders and brokers to better understand whether you need to have mortgage reserves for your purchase. But here's how the requirements could vary depending on the type of mortgage.
| Loan Type | Reserve Requirements for a Single-Family Home |
|---|---|
| Conventional | Zero to six months |
| Jumbo | Up to 12 months |
| FHA | Zero to three |
| VA | Often none |
| USDA loan | None |
How Much Are Mortgage Reserves?
If you need mortgage reserves, the amount often will be measured in months and is based on your monthly principal, interest, taxes and insurance (PITI) payments for:
- Principal
- Interest
- Taxes
- Insurance
- HOA dues (when applicable)
Your insurance costs could depend on whether you need private mortgage insurance. But if your monthly expenses are $3,000, then your mortgage reserve requirements might be six times that, or $18,000.
What Assets Can You Use for Mortgage Reserves?
The lender and loan type might affect which assets you can use as reserves. However, liquid assets—cash and funds that can easily be turned into cash—are often accepted.
Assets You Can Use for Mortgage Reserves
Acceptable types of assets could include money that you have in:
- Checking and savings accounts
- Certificates of deposit
- Stocks, bonds or mutual funds
- Money market accounts
- Retirement savings
- Cash in vested life insurance policies
If you don't have enough reserves to qualify for the mortgage on your own, eligible gifted funds could be set aside to meet the reserve requirements.
Assets You Can't Use for Mortgage Reserves
Some of your assets might not be accepted for mortgage reserves, including:
- Stock options, restricted stock units, retirement account balances and other assets that haven't vested
- Money that you can't access until you retire or leave your job
- Stock in unlisted corporations
- Funds from an unsecured personal loan
- Money that you receive from another party that's interested in having the home sold, such as the current homeowner, a builder or developer, or the real estate agent.
- Money that you receive from the lender, such as credits (upfront funds you receive in exchange for a higher interest rate) or other incentives.
However, if you have these types of assets and need more reserves to qualify for a mortgage, it's worth mentioning them to your lender. There may be exceptions or certain types of loans that accept some of these as mortgage reserves.
How to Build Your Mortgage Reserves
As with saving for your down payment, you might be able to build your reserves by cutting discretionary expenses, taking on extra work or a new side gig and looking for other savings opportunities. Unlike your down payment and closing costs, you ideally won't have to use your mortgage reserves.
With this in mind, there are a few places you might want to keep your mortgage reserves:
- High-yield savings accounts: A checking or savings account offers the easiest access to your money. Some high-yield accounts also offer attractive interest rates.
- Money market accounts: Money market accounts are a type of savings account that might offer a higher interest rate if you have a large balance.
- Money market funds: Money market funds are a type of mutual fund that might offer similar returns to high-yield bank accounts.
- Certificates of deposit (CDs): A CD might offer a higher interest rate than high-yield bank accounts, but you might have to pay a penalty to withdraw money early.
- Contributions to retirement accounts: Money in a 401(k), IRA or other type of retirement plan might count toward your reserves. Your contributions also might be tax deductible and qualify you for the saver's credit.
It's best practice to maintain an emergency fund to cover unexpected bills in addition to anything you're saving for mortgage reserves. This will prevent you from eating into funds you've stashed away for other goals in the event of a financial emergency.
Build Your Credit and Savings
Building up your cash reserves can be important, particularly if you will have a high DTI or are buying a multi-unit property. Your credit score can also be an important factor. Higher credit scores can help reduce the cash reserve requirement and qualify you for a lower interest rate. Check and monitor your credit with Experian for free to see where you're at while looking for your next home.