Lenders generally require you to purchase PMI – Private Mortgage Insurance , if you can’t come up with at a least 20% down payment. PMI is a rather expensive insurance policy that insures the lender against default if you walk away from your home.
Not everyone has to pay this insurance. There are federal and state plans for low income earners to help them buy a home with little or no down payment and without mortgage insurance, If you think you qualify, contact the FHA. Local bank and mortgages brokers can also hook you up with these programs.
Also lenders have come up with schemes to help homeowners avoid paying PMI. These are generally known as 20-80 or 10-10-80 loans or some variation thereof.
Basically the lender arranges for 100% financing through multiple mortgages, using whatever down payment you have. These only make sense if the costs of the loans are less than the cost of the mortgage and PMI combined.
In this article we will only consider borrowers who don’t have the 20% and don’t want to or can’t qualify for 100% financing.
The main purpose of PMI is to allow you to buy a home without having to wait years to save up the down payment. Lenders are more comfortable if you put down 20% or more since you are less likely to walk away from the house if problems arise.
Private mortgage insurance covers the down payment if you default and makes lenders much more eager to grant a mortgage.
Also you can buy a larger house if you use PMI because your down payment can be as low as 5%.
However PMI costs at least $40 a month on a $100,000 loan with 10% down. This is $480 a year until your equity is at least 20% of the value of the house.
The borrower almost always pays for this insurance which can be billed:
Annually. You pay the first-year premium at closing; an annual renewal premium is collected monthly as part of the total monthly house payment.
Monthly. The cost is slightly more than with the annual plan, but dramatically lowers mortgage insurance closing costs.
You pay your private mortgage insurance preminum monthly as part of your total mortgage payment, but you only need to pay one month’s mortgage insurance premium at closing, rather than one year’s.
Single. You pay a one-time single premium. Since single premiums are typically financed as part of the mortgage loan amount, no out-of-pocket cash is used for mortgage insurance at closing.
However, since you are financing the insurance, you are also paying points and interest on the premium, which increases its total cost.
Also make sure the single premium only covers you until you build up sufficient equity in your home. Otherwise make sure excess premiums are refundable.
In 1998, Congress passed the Homeowners Protection Act which went into effect the next year.
This law establishes rules for automatic termination and borrower cancellation of PMI on home mortgages. These protections apply to mortgages signed on or after July 29, 1999 for the purchase, construction, or refinance of a single-family home.
The law does not apply to government-insured FHA or VA loans or to loans with lender-paid PMI.
For mortgages signed on or after July 29, 1999, your Private Mortgage Insurance must be terminated automatically when you reach 22% equity in your home based on the original property value, if your mortgage payments are current. PMI also can be canceled at your request when you reach 20 percent equity in your home based on the original property value, if your mortgage payments are current.
Exceptions are if your loan is considered high-risk: if you have not been current on your payments within the year prior to the time for termination or cancellation: or if you have other liens on your property.
For these loans, your PMI will probably continue. Ask your bank for more information about these exceptions.
If you signed your mortgage before July 29, 1999, you can ask to have the PMI canceled once you exceed 20 percent equity in your home, but federal law does not require your lender to comply.
The law also requires that:
New borrowers covered by the law must be told – at closing and once a year – about PMI termination and cancellation.
Mortgage service agents must provide a telephone number for all borrowers to call for information about termination and cancellation of PMI.
Even though the law’s termination and cancellation rights do not cover loans that were signed before July 29, 1999, or loans with lender-paid PMI signed on any date, lenders or mortgage service agents must tell borrowers about any termination or cancellation rights they may otherwise have – rights established by contract or state law.
Some states have laws that apply to early termination or cancellation of PMI – even if you signed your mortgage before July 29, 1999. Call your state consumer protection agency for more information about your state’s laws.
Fannie Mae and Freddie Mac, which buy home mortgages from lenders, also may have guidelines affecting termination or cancellation of PMI on home mortgages signed before July 29, 1999.
Check with your lender or mortgage service agent or call Fannie Mae or Freddie Mac for more information.
It pays to keep track of the equity in your home when paying PMI and asking for its cancellation once you have reached 20%.