October 3rd, 2018
Private Mortgage Insurance (PMI) is a type of insurance that most borrowers may be required to pay if they are not making a down payment of 20% or more. While you may think you understand the concept of insurance, if you have never bought a house before, you may not realize that PMI is different than most types of insurance. Here are five PMI facts every buyer should know:
Most insurance is something you buy to protect yourself – your car, your home, your health, etc. PMI is something you pay for but it actually protects the lender, not you. A 20% down payment has traditionally been the standard because if a borrower defaults and the lender must foreclose on the property, that 20% down payment will help the mortgage lender pay for the costs of repairing and selling the home. Without that full 20%, lenders are left open to large losses in the event of default. A private mortgage insurance policy insures the lender for a certain amount of money in case you are unable to pay your mortgage and the bank has to deal with the sale of the property. You pay the PMI premiums for the privilege of taking out a home loan with less than 20% down.
PMI premiums are calculated annually and usually divided by 12 months and added to your monthly mortgage bill. This could cost you an extra $30-$70 per month for every $100,000 you have borrowed for your home. In some cases, your monthly mortgage payment could be hundreds of dollars higher because of PMI.
Most mortgages allow you to cancel your PMI policy when you gain 20% equity in your home. This can happen in two ways. First, your property value could grow over time, giving you extra equity without you having to do anything. Second, you could pay down your mortgage principal until you have paid down at least 20% of the loan. That could be through monthly payments or through a one-time lump sum.
Just because you reach 20% equity in your home does not mean the lender will automatically cancel your PMI policy. Many mortgages will stipulate that the lender will contractually cancel the policy when you reach 22% in equity, but if you initiate the process, it can be canceled at 20%. So borrowers need to be vigilant in keeping track of their progress on mortgage principal and on how much the housing market prices have increased in order to get rid of PMI as soon as possible. Certain criteria must be met before a lender will cancel PMI with 20% equity.
There are ways to avoid paying PMI. Of course, you could wait and save up until you have a 20% down payment. Sometimes that is not realistic. The other options include VA loans or Physicians loans if you qualify, piggyback loans or some non-conforming loans. You can also opt to pay a large premium in advance eliminating the need to pay PMI monthly. This can also be done with what is called Lender Paid Mortgage Insurance (LPMI). This is when you pay a slightly higher interest rate and the lender pays for the PMI. You may also want to consider refinancing.
FHA government insured mortgages have different requirements than private ones. Because they allow such low down payments, many FHA loans will require you to pay mortgage insurance for the life of the loan, which is typically 30 years. Under rare circumstances, it could be less time.
Armed with these essential facts, you can decide how and if you want to pay private mortgage insurance before you buy that first (or next) house.
Although paying PMI isn't fun, buying a home sooner and paying PMI often helps you buy a home much earlier (usually at a lower price) and helps you to begin to earn equity much faster.
As a Utah mortgage broker, we offer several options. Should you have questions about a Private Mortgage Insurance - give us at Advanced Funding a call today at 801-272-0600.