Avoiding Private Mortgage Insurance When You’re Buying a House
If you put at least 20% down, you can get out of paying PMI. If your mortgage already includes PMI, your lender can cancel it once they see that the principal balance of the loan is 80% or less of the house’s original assigned value; or, 80% of the market value of the house.
You Can Put Down Less Than 20%
For the last 10 years, lenders have gradually reduced the requirements for mortgages, making it easier than ever to borrow more money with a smaller down payment. We have written about several no- and low-down payment mortgages that are accessible to homebuyers today. These include the FHA loan, the Conventional 97 loan, the USDA and VA loans–both of which can provide up to 100% financing.
The impact of these programs led the National Association of Realtors to carry out a study which showed that the average home buyer in 2015 put down just 10%, and had the other 90% of the house price financed by a mortgage.
If you make a down payment that is less than 20%, you have to pay for Private Mortgage Insurance (unless you got a VA loan). PMI is a charge that is added to your monthly mortgage payment and is mandatory until your equity on your house reaches 20%. While PMI is seen as an extra burden, it’s what has allowed buyers from the U.S. get houses with a down payment that’s less than 20%.
What Exactly Is PMI?
PMI is an insurance policy that was set up to safeguard your mortgage lender in the event that you aren’t able to pay back your loan. PMI is usually charged when a buyer’s home equity is lower than 20%. PMI can therefore be assigned to both refinance and purchase money loans.
PMI was created because homes which defaulted and were then sold at an auction for example, wouldn’t recover the full value of the home because of damage, wear, neglect etc. The lender therefore needs to offset the amount of risk taken by requiring PMI from homeowners with less than 20% equity. PMI is “private” in the sense that it’s a service offered by private companies rather than the government. Unlike with FHA MIP, you stop having to pay PMI once your equity in the house gets to 20%. With a standard FHA loan, the only way to cancel this insurance charge is by refinancing.
How Much Is PMI?
The cost of PMI depends on how much risk you pose to the bank. A smaller down payment is likely to increase your PMI costs. As a rule of thumb, PMI costs start at 30 basis points (0.30%) of the total annual loan balance and can go up to 115 points (1.15%). Factors such as size of down payment, credit score and total loan term contribute to your final rate.
The total PMI cost is divided into 12 and added to your monthly mortgage payment. For example, a buyer with a credit score of 740 who is putting down 5% and lending $250,000 over a 30-year fixed-rate mortgage term would pay about $110 in PMI every month. Note that the PMI premiums change often. Each state will have different PMI cost, and so will each provider. If you know you will require PMI, it is best to ask your lender to do a comparison so you get the best deal.
Can I Cancel PMI?
Of course you can! And it’s a much simpler process than cancelling the standard FHA MIP. You can cancel PMI once the principal balance of your loan falls to 80% of your house’s original, or market value.
Your lenders are legally required to inform you of all your options at least once a year. This includes letting you know about the Homeowners Protection Act (1998) that made it the lender’s duty to cancel PM as soon as the homeowner’s principal reaches 78% of the purchase price of the home.
The only thing to note with this is that you have to be current on the loan when it falls to 78% Loan-To-Value (LTV) for your PMI to be cancelled. If you aren’t current at that time for some reason, you will still have to pay PMI until the first day of the first month after you get current.
The Homeowners Protection Act also permits homeowners to ask for PMI cancellation once they’ve gotten to 80% LTV, based on the original value of the house. In this case you will have to contact your lender, not the other way around.
Is there a way to just not pay PMI at all?
Glad you asked. And yes, there are many ways to avoid your PMI altogether. PMI was set up to assist home buyers who could only put down less than 20% down for their homes, however, some home buyers would rather just avoid it. If you’re one of them, here are a few ways to go about it:
The simplest, most straightforward answer is to put down 20% or higher as PMI doesn’t apply on down payments of 20% or more.
The second solution is limited to military borrowers. If you have served in the military, you might be eligible for a VA loan which doesn’t charge PMI.
Beyond these, there are a few clever ways to get out of PMI. Most lenders will offer Lender-Paid Mortgage Insurance (LPMI) as an option. LPMI is pretty much the same as PMI, except that the burden of payment falls on the lender. In exchange for paying your PMI, your lender will likely ask you to take on a higher mortgage rate (usually an increase of up to 75 points (0.75%)). Make sure you discuss this option thoroughly with your lender as LPMI can’t be canceled.
One other option is to use something called “piggyback financing”, which will require you to put down 10%. With piggyback financing, you the buyer will need to put 10% down at closing and instead of getting a mortgage for the other 90% of the home’s value, you take on two mortgages that are “piggybacked” on each other.
Most piggyback loans are arranged as a 10% down-payment with a first mortgage of 80% and a second mortgage of 10%. This arrangement is commonly known as the ‘80/10/10’. If you’re buying a condo, the ‘75/15/10’ arrangement might be more suitable.
PMI isn’t such bad thing when you can’t make that 20% down payment. Here’s how to find out exactly how much PMI would cost you on your mortgage: Click here