If your down payment on a home is less than 20 percent, you will have to pay for mortgage insurance.
What is PMI?
When you make a down payment of less than 20%, the lender requires private mortgage insurance, or PMI. The policy protects the lender from losing money if you end up in foreclosure. PMI also is required if you refinance the mortgage with less than 20% equity.
Private mortgage insurance fees vary, depending on the size of the down payment and your credit score, from around 0.3% to about 1.5% of the original loan amount per year. Some years, PMI premiums are tax-deductible and some years they're not, depending upon the whim of Congress.
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|Peyton buys a $200,000 house and makes a 10% down payment, borrowing $180,000. Peyton has a 740 credit score. |
*Rate varies according to size of down payment, credit score and insurer.
|Insurance rate||0.41% per year*|
Source: Bankrate.com, Radian mortgage insurance calculator
Most PMI policies require the borrower to pay monthly. Borrowers also have the option of paying for mortgage insurance with a large upfront payment.
PMI can be canceled
Your lender must automatically cancel PMI when your outstanding loan balance drops to 78% of the home's original value. This probably will take several years.
You can speed up the cancellation of mortgage insurance by keeping track of your payments. Once the loan balance reaches 80% of the home's original value, you may ask the lender to discontinue the mortgage insurance premiums.
To put it another way: You can request cancellation of mortgage insurance when the loan-to-value ratio drops to 80%. The lender is required to cancel private mortgage insurance when the loan-to-value ratio drops to 78%.
The loan-to-value ratio, or LTV, describes mortgage debt as a percentage of how much the home is worth. It is a financial term used by lenders.
Formula: Mortgage amount owed / Appraised value
Example: Alex owes $60,000 on the mortgage. The house is worth $100,000.
$60,000 mortgage balance / $100,000 = 0.60. This means that Alex's loan-to-value ratio is 60%.
We're talking PMI, not FHA
Recent FHA-insured loans require payment of mortgage insurance premiums for the life of the loan. FHA mortgage insurance premiums can't be canceled. Instead, you have to refinance the loan. Read "7 crucial facts about FHA loans."
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