Private Mortgage Insurance

PMI is a type of insurance that may be required for conventional mortgage loan borrowers when they buy a home and make a down payment of less than 20% of the home’s purchase price, PMI may become a part of your mortgage payment. It protects your lender if you stop making payments on your loan.

For example, if you buy a home for $200,000, you’ll likely need a down payment of $40,000 to avoid paying PMI. After you’ve bought the home, you can typically request to stop paying PMI once you’ve reached 20% equity in your home. PMI is often cancelled automatically once you’ve reached 22% equity.

PMI only applies to conventional loans. Other types of loans often include their own types of mortgage insurance. For example,FHA loans require mortgage insurance premiums (MIP), which operate differently from PMI.

Types Of PMI

There are two types of PMI to be aware of, borrower-paid and lender-paid PMI.

Borrower-Paid PMI

Borrower-paid PMI (BPMI) is the most common type of PMI. BPMI simply adds an insurance premium to your regular monthly mortgage payment.

Lender-Paid PMI

If you have lender-paid PMI (LPMI), your lender will pay your mortgage insurance premiums as a lump sum when you close the loan, and you’ll pay it back by accepting a higher interest rate.

You may also have the option to pay your entire PMI yourself at closing, which would not require a higher interest rate. Depending on the mortgage insurance rates at the time, this may be cheaper than BPMI, but keep in mind that it’s impossible to “cancel” lender-paid PMI because your payments are made as a lump sum upfront.

If you wanted to lower your mortgage payments, you’d have to refinance to a lower interest rate, instead of removing mortgage insurance.

Mortgage Insurance Vs. Homeowners Insurance

Mortgage insurance is often confused with homeowners insurance. However, they serve different purposes. Homeowners insurance protects you in case your home is damaged or your property is stolen. Mortgage insurance helps secure a mortgage with a lower down payment by providing coverage for your lender in case you default on your mortgage.

How Much Is PMI?

PMI, like other types of insurance, is based on insurance rates that can change daily. PMI typically costs 0.2% – 2% of your loan amount per year.

Private Mortgage Insurance Example

Let’s take a second and put those numbers in perspective. If you buy a $300,000 home, you could be paying somewhere between $600 – $6,000 per year in mortgage insurance. This cost is broken into monthly instalments to make it more affordable. In this example, you’re likely looking at paying $50 – $500 per month.

Factors That Influence The Cost Of Your Private Mortgage Insurance

Your lender will also consider a few other factors when determining how much PMI you’ll have to pay as part of your regular mortgage payment. Let’s review some of them.

Down Payment Amount

Your down payment plays a significant role in determining how much PMI you’ll have to pay. A smaller down payment can represent higher risk for the lender, meaning the lender stands to lose a larger investment if you default and your home goes into foreclosure.

A lower down payment means your regular mortgage payments are higher and it will take longer before you’re able to cancel PMI. All of this increases the possibility of you missing a payment, meaning you may be charged higher PMI premiums.

Even if you can’t afford a down payment of 20%, increasing your down payment can reduce the amount of PMI you’ll have to pay.

Credit History

Your lender will also review your credit history to see if you’ve been a responsible borrower in the past. Your credit score can indicate how reliably you’ve paid back money you’ve borrowed. A higher credit score, for example, can show that:

• You don’t borrow more money than you can pay back.
• You pay your bills on time.
• You avoid maxing out your credit limit.

A solid credit history and high credit score can mean a lender may charge less in PMI premiums because you’ve shown you’re a responsible borrower who pays back what you borrow.

On the other hand, if you have a lower credit score, your lender may have less faith in your ability to manage your debt responsibly. As a result, you may have to pay higher PMI premiums.

Type Of Loan

Your loan type can also influence how much you’ll have to pay in PMI. For example, fixed rate loans can reduce the amount of risk involved with the loan because the rate won’t change, leading to consistent mortgage payments. Less risk can mean a lower mortgage insurance rate, meaning you might not need to pay as much PMI.

In the end, there are a lot of elements that can influence how much PMI you’ll have to pay. Your lender can walk you through different loan options and how much PMI you should expect to pay.

How To Avoid PMI

You may be wondering if there’s a way to avoid PMI. Luckily, you can get out of paying for it, but it’ll depend on which type you have, borrower-paid or lender-paid.

How To Avoid Borrower-Paid PMI

There are a few ways you can avoid adding a PMI expense to your monthly mortgage payment, including making a down payment of 20% or higher, taking out a specific type of mortgage loan or taking out a piggy-back loan.

Make A Large Down Payment

You can avoid BPMI altogether with a down payment of at least 20%, or you can request to remove it when you reach 20% equity in your home. Once you reach 22%, BPMI is often removed automatically.

Take Out An FHA Or USDA Loan

While it’s possible to avoid PMI by taking out a different type of loan, Federal Housing Administration (FHA) and USDA Loans have their own mortgage insurance equivalent in the form of mortgage insurance premiums and guarantee fees, respectively. Additionally, these fees are typically around for the life of the loan.

The lone exception involves FHA loans with a down payment or equity amount of 10% or more, in which case you would pay MIP for 11 years. Otherwise, these premiums are around until you pay off the house, sell it or refinance

Take Out A VA Loan

The only loan without true mortgage insurance is the VA loans Instead of mortgage insurance, VA loans have a one-time funding fee that’s either paid at closing or built into the loan amount. The VA funding fee may also be referred to as VA loan mortgage insurance.

The size of the funding fee varies according to the amount of your down payment or equity and whether it’s a first-time or subsequent use. The funding fee can be anywhere between 1.25% – 3.3% of the loan amount. On a VA Streamline, also known as an Interest Rate Reduction Refinance Loan, the funding fee is always 0.5%.

It’s important to note that you don’t have to pay this funding fee if you receive VA disability or are a qualified surviving spouse of someone who was killed in action or passed as a result of a service-connected disability.

Take Out A Piggyback Loan

One other option people look at to avoid the PMI associated with a conventional loan is a piggyback loan. Here’s how this works: You make a down payment of around 10% or more and a second mortgage, often in the form of a home equity loan or HELOC is taken out to cover the additional amount needed to get you to 20% equity on your primary loan.

Although a HELOC can help avoid the need for PMI, you’re still making payments on a second mortgage. Not only will you have two payments, but the rate on the second mortgage will be higher because your primary mortgage gets paid first if you default. Given that, it’s important to do the math and determine whether you’re saving money or if it just makes sense to make the PMI payments.

How To Avoid Lender-Paid PMI

There’s no way to avoid paying for LPMI if you have less than a 20% down payment. You can go with BPMI to avoid the higher rate, but you still end up paying it on a monthly basis until you reach at least 20% equity. In that case, you’re back to the original amount from the BPMI scenario.

How To Get Rid Of PMI (If You Already Have It)

Your letter should be sent to your mortgage servicer and include the reason you believe you’re eligible for cancellation. Reasons for cancellation include the following:

• You’ve reached 20% equity in your home. (Regardless of whether you made extra payments toward your principal in order to get there faster.)
• You’ve made significant improvements to your home. If you’ve made home improvements that substantially increase the value of your home, you can have mortgage insurance removed. If your loan is owned by Faannie Mae, you must have 25% equity or more. The Freddie Mac requirement is still 20%.
• Your home increased in value not related to home improvements. If you’re requesting removal of your mortgage insurance based on natural increases in your property value due to market conditions, Fannie Mae and Freddie Mac require you to have 25% equity if the request is made 2 – 5 years after you close on your loan. After 5 years, you only have to have 20% equity. In any case, you’ll be paying for BPMI for at least 2 years..

Cancelling PMI On A Multiunit Property

If you have a multi unit primary property or investment property, things work a little bit differently.

Fannie Mae lets you request cancellation of your PMI once you reach 30% equity, while Freddie Mac requires 35% equity.

Freddie Mac doesn’t automatically cancel mortgage insurance on multi unit residences or investment properties. Fannie Mae mortgage insurance cancels halfway through the loan term if you do nothing.

PMI Insurance FAQs

Below are some frequently asked questions regarding the basics of PMI.

Why do I have to pay for PMI?

Although PMI may seem like yet another expense in the home buying process, it is a requirement for many borrowers. In the same way that homeowners insurance can protect you against damage to your home, PMI protects your lender if you default on your mortgage.

What’s the difference between PMI and mortgage protection insurance?

Unlike PMI, which is solely for the lender’s protection, mortgage protection insurance will continue to cover your mortgage payments after you die. This insurance can help protect your family members facing foreclosure on the property after you have passed on. This insurance is sometimes referred to as mortgage life insurance.

Should I pay off my PMI early?

It’s very important that you cancel your mortgage insurance as soon as you can because the savings can be significant for your monthly payments. If you have a 30-year fixed-rate loan for $300,000, you’ll have nine payments left between reaching 20% equity and having your PMI automatically cancelled at 22% equity. If you cancel early, you could save thousands of dollars, depending on your interest rate.