Understanding Private Mortgage Insurance

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2040
Richard T. Cirelli, President, CMPS RTC Mortgage Corporation

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Why You Need It and How to Remove It

When financing their home purchase, nobody likes paying for private mortgage insurance, called PMI for short. But with large down payments being a major obstacle, it enables many homebuyers to buy their new home with less than a 20 percent down payment. With record low interest rates and home prices still low too, it’s really a small price to pay in the long run.

PMI is required by conventional lenders whenever the down payment is less than 20 percent. It insures the lender against default by the buyer or homeowner. PMI is required of all conventional loans originated by banks and non-bank lenders that are sold to government agencies known as Fannie Mae and Freddie Mac. Nearly all conventional loans are sold to these agencies regardless of the originating lender. In general, PMI is available on loan amounts up to the Fannie Mae/Freddie Mac limit of $625,500 in high-priced markets.

How Much Does It Cost?

PMI costs vary according to the amount of the down payment, the borrower’s credit scores, the loan amount and other factors. The range of cost is usually 0.375 to 1 percent of the loan amount, paid on a monthly basis. Loans made to 95 percent of a home’s value will be at the higher end of the range and loans at 85 or 90 percent of value are at the lower range. As an example, the cost of PMI on a $400,000 loan with 10% down to a homebuyer with good credit would be about 0.5% or $167 per month. Costs do vary slightly among the companies that offer the insurance. The lender chooses the PMI company.

What About FHA Loans?

FHA loans are insured by the federal government instead of private mortgage insurers. The cost is higher but there are advantages too. FHA loans allow a smaller down payment of only 3.5% and are available for loans up to $729,750 in high-cost markets such as Orange and Los Angeles counties.

Can I Cancel PMI?

The Homeowners Protection Act of 1999, also known as the PMI Cancellation Act,  enables homeowners to remove PMI when certain conditions have been met. Once a borrower’s principal balance reaches 80 percent of the original value, the borrower can request that the PMI be removed. Most of the time lenders will use the original appraised value of the property; however, they may use the current value if it has gone down or if the borrower pays for the appraisal and did improvements to justify an increase in value. A lender can reject the request that PMI be dropped, but when the loan balance declines to 78% of the original value, PMI is required to be automatically removed.

Additionally, lenders are required to notify the borrower of the details of their PMI at closing, when the loan-to value ratio will reach 80 percent and if the PMI has not yet been removed, when the LTV reaches 78 percent. This way the borrower doesn’t “forget” about PMI payments and can have their monthly mortgage payment reduced when their loan-to-value qualifies.

Don’t let PMI be an obstacle to taking advantage of today’s low rates and affordable home prices. And, it can be used for refinance loans too.