How Large a Down Payment Should You Make?

Rohit has a number to choose and no way to change it later

Rohit and his wife have saved towards a flat and now have to decide how much of that saving goes in as the down payment. Put more down and the loan is smaller, the instalment is lower and the total interest falls. Put less down and the difference stays invested.

The advice he has received points both ways with equal confidence, which is a fair signal that the question has no universal answer. What it does have is a structure, and the structure is worth seeing clearly, because unlike most financial decisions this one is made once and cannot be adjusted afterwards. Money that goes into the property is not coming back out without selling or borrowing against it.

It is the prepay question, asked at origination

The economics are identical to prepaying a home loan against investing, and everything established there applies here.

A larger down payment earns exactly the borrowing rate, with certainty, and is not taxed — because interest avoided is not income. The alternative invests the difference for an uncertain return that is taxed when realised.

The measured result, across every ten-year period in the Indian record, was that investing came out ahead most of the time at every borrowing rate tested, often by a wide margin, and lost heavily in the worst periods against an alternative that could not lose at all. The ladder of rates and the caveats — including that this record contains no ten-year period in which the investment lost money outright, which flatters equity and is a property of a short sample — are on that page and are not repeated here.

What is different about the down payment is everything around the arithmetic, and that is what decides it.

Four things the prepay comparison does not capture

The floor is not Rohit's to choose. Lenders require a minimum contribution, and it is set by them. The decision only exists above that floor, so the first step is to find out what the floor actually is for the property and the lender in question.

Below a certain point the loan gets more expensive. Lenders commonly price by how much of the property's value is being lent against, so a smaller down payment can raise the rate on the whole loan rather than just on the extra borrowed. Where that applies, the effective return on the marginal rupee of down payment is higher than the headline rate — sometimes substantially — and the comparison shifts towards putting more down. Asking for the rate at two or three different down payments rather than one is a single question that can change the answer.

A larger down payment buys a smaller instalment, which is not a return but is a real thing. It widens the margin between what the household must pay each month and what it dependably earns, and that margin is what absorbs a bad year without the plan collapsing. This is the same argument as borrowing less than you are offered.

And the money becomes illiquid. This is the largest consideration and it is usually the one missed. A rupee invested can be reached in a few days. A rupee in the property cannot be reached at all without selling or arranging further borrowing, and the moment Rohit would most want it — a lost job, a medical event — is exactly the moment when borrowing against a property is hardest to arrange.

The rule that decides it before the arithmetic does

Given the illiquidity, one constraint should be applied before any comparison is run.

The down payment must not consume the emergency reserve, and it must not consume the money for the costs that follow the purchase. Registration, stamp duty, legal work and brokerage are paid at the same time and are not part of the price. Then the flat has to be made habitable, and then something will need repairing.

A couple who complete the purchase with nothing left have made themselves fragile at the precise moment their fixed monthly obligations have increased permanently. That is a worse position than either a larger loan or a smaller flat, and it is arrived at by treating the down payment as the thing to maximise.

So the sequence is: establish the lender's floor, set aside the reserve and every transaction cost, and only then decide how much of what remains goes in.

How to think about the remainder

With those constraints applied, the residual decision is genuinely a judgement, and three questions resolve it for most households.

Does a smaller down payment change the rate? If yes, and materially, that usually settles it in favour of putting more down.

Would the invested difference actually be invested? The comparison assumes it is, every month, for years. If the honest answer is that it would drift into spending, the down payment is the better choice — not because the arithmetic says so but because the alternative will not happen.

And how would the bad case feel? A decade in which the investment badly underperformed the loan rate is survivable for a household with a comfortable margin and slow-moving commitments. For one that is stretched, the certain outcome is worth more than the better average.

This is also not all-or-nothing. A middle position — above the lender's floor, below everything he could scrape together, with the reserve intact — is usually the right shape, and it is the one that gets skipped when the question is posed as a choice between two extremes.

What to take away

A down payment earns the borrowing rate, guaranteed and untaxed, and the money becomes unreachable. The measured comparison against investing is on the prepay page, and it favours investing on average while carrying a bad case that the down payment does not have.

Before applying any of that: find the lender's floor, ask what the rate would be at two or three different down payments, and set aside the emergency reserve and every transaction cost. Whatever is left is the part the comparison applies to.

Then choose on the bad case rather than the average, be honest about whether the difference would really be invested, and prefer a middle position — because the mistake that hurts is not putting in a little too much or a little too little, it is arriving at the purchase with nothing held back.