What is a doctor loan?

A “doctor loan” or physician home loan is a mortgage that makes it faster and easier for residents, attending physicians and other medical professionals to buy a home with a low down payment while avoiding mortgage insurance.

What are the advantages of a doctor loan?

Doctor loans—which have been around for decades—were originally designed to lure soon-to-be affluent medical professionals into the banks. Physicians represent not only a profitable niche but also a good risk for the banks since doctors default on their loans at the lowest rate of any profession. All of these advantages hail from the bankers bending over backward to win your business, and the advantages are real.

1. Doctor loans avoid principal mortgage insurance (PMI)

Principal mortgage insurance (PMI) is an insurance policy that protects the bank if you, the mortgagee, “default” or fail to make the promised payments on your home loan. PMI is expensive, does you zero good and it’s not even tax deductible, so physicians should avoid it when they can.

You can dodge PMI if you put 20% down on a home but many young doctors simply don’t have that kind of cash. With a doctor mortgage loan and a decent credit score, physicians can borrow 95% to 100% of the home’s purchase price with no PMI. A low or zero down payment leaves more money for other goals like paying off student loans, investing for retirement or saving for college.

2. Doctor mortgage loans help physicians get into a home sooner

Since they use a physician-specific loan approval process, the lenders behind doctor loans may allow you  to close on your home up to two months before you actually begin your practice.

These lenders use your employment contract as proof of income instead of relying on two years worth of tax returns. Josh Mettle, who handles doctor loans nationwide at Fairway Independent Mortgage Corporation, notes that “this is huge for physicians relocating across the country, needing to get their family settled and house in order before they start a busy work schedule.”

Bear in mind, no two physician employment contracts are created equally.  When applying for a home loan, even a doctor mortgage, you should have your employment contract reviewed by the lender as early as humanly possible so you can plan accordingly. Mettle advises his clients to make sure that their employment contract is not only reviewed and approved by the loan officer, but also by the underwriter who will eventually have the ultimate power to approve the loan.

3. It’s easier for debt-ridden physicians to qualify for a doctor loan

Many doctor mortgages do not include deferred student loan payments when they calculate the debt-to-income (DTI) ratio that bankers use to make lending decisions. This can make the difference between qualifying for a loan or being shut out of your dream home. For physicians early in their attending careers or carrying heavy student loan burdens, this factor can make a doctor mortgage loan the only option since conventional and jumbo mortgage loans are not nearly as accommodating to those with medical school debt.

What are the disadvantages of a doctor loan?

While there’s nothing inherently “wrong” with these loan products, they make it easier for unwary doctors to get into financial trouble both now and for years to come. The disadvantages of doctor loans have everything to do with how they are used.

1. Physicians get in over their heads when doctor loans go wrong

The appeal of a “nothing down loan” or a low down payment conceals the downside risk of a leveraged real estate purchase.

Consider this example. A physician buys a one million dollar home with a one million dollar doctor loan with a zero down payment.  Then, when the real estate market hits a bump and home prices drop by an average of 10%, she will own a $900,000 house with a $1,000,000 loan, which results in  $100,000 of negative equity. This condition, known as “being upside down in your home,” was quite common during the post-2008 housing crisis.

Young doctors who sold homes like these were required to come to the closing table with a check for $100,000 just to be able to consummate the sale of their home. And remember, that’s $100,000 in after-tax money, which is about $200,000 in pre-tax earnings, or the equivalent of one year’s salary for the average physician. Ouch!

2. Doctor loans make housing decisions faster but not better

In his book, “Decisive: How to Make Better Choices in Life and Work,” behavioral economist Chip Heath points out that people (doctors included) are bad at imagining the future and worse at imagining how we will feel in that future. As a result, we tend to make decisions that we believe will make us happy but don’t.

This reality bears itself out in “the dream home” that many physicians envision for themselves while they are still in training. The perfect job and the perfect house in the perfect location might bring happiness but alas, perfection is far from perfect.

Sometimes young doctors take a job in a new city only to realize that the weather is not quite what they had imagined, the schools are not up to speed, or worse… they realize that their new partners are bilking Medicare. So they move, and they bear all the costs of a housing mistake.

The instant money that comes from doctor loans leaves no time for physician families to slow down, rent for a while, build up savings, pay off and refinance high interest rate loans, shop the market or really consider the things that are known to make people happy. One of these things is a sense of making real progress toward financial security.

Is a doctor loan a good idea?

Buying a home is a big decision with far reaching consequences. Physician mortgage loans are nothing more than a tool that may make things better or worse for you depending on how you use it. Take some time to consider not only the pros and cons of a doctor loan but the impact it may have on your life.

Josh Mettle, the author of “Why Physician Home Loans Fail: How to Avoid the Landmines for a Flawless Home Purchase”, is a mortgage lender with Fairway Independent Mortgage Corporation where he specializes in mortgage financing for physicians. Check out his podcast on Physician Financial Success. or visit his website about reverse mortgages.