There are many costs associated with buying a home, especially if you use a mortgage loan for the purchase. If you are planning to take out a conventional mortgage loan, one possible expense is private mortgage insurance (PMI).
Here’s a look at what private mortgage insurance is, who is responsible for buying it, and the type of coverage it provides.
What is Private Mortgage Insurance and when is it mandatory?
PMI is a type of insurance coverage that a mortgage lender may need to protect itself from potential losses if a homeowner defaults on their home loan. According to the Consumer Financial Protection Bureau (CFPB), it may be necessary if you have a conventional mortgage loan and put less than 20% on a home or refinance your mortgage loan and have less than 20% equity left in the property.
A home loan with a smaller down payment poses a greater risk to lenders, because there is less equity. However, with the assurance of PMI, a lender may find it easier to accept a higher risk borrower. PMI does not protect the buyer in any way. Unlike homeowners insurance, it does not cover your property if there is damage or loss.
On average, PMI costs between 0.2% and 2% of your total loan amount annually. However, this can vary based on the lender, location, loan details or even credit score.
PMI is not included in government-backed mortgages, such as an FHA loan or a VA loan. These mortgage programs have their own types of coverage and related costs that may be required, such as mortgage premium insurance (MPI) that is paid both monthly and at closing.
4 different types of PMI
There are a few different forms of private mortgage insurance, which determine how the policy is paid and by whom.
1. Mortgage Insurance (BPMI)
This is the most common type of PMI and requires the borrower to pay a mortgage insurance premium for the duration of the PMI requirement. These premiums are usually rolled into the monthly mortgage payment, but can also be paid separately in most cases.
Once your PMI requirement is canceled — whether you’re refinancing the home or hitting the required equity threshold — this monthly payment will be reduced.
2. Single-Price Mortgage Insurance (SPMI)
With a single premium insurance, you pay off your coverage in one go. The policy will continue to protect your lender until your need goes away, but you are not responsible for paying premiums each month.
This type of PMI incurs a higher initial cost, but results in a lower monthly mortgage payment. However, if you can get PMI removed earlier than expected (either through a market shift or by refinancing your home), those prepaid premiums will be lost.
3. Split premium mortgage insurance
As the name implies, split premium mortgage insurance allows you to split your PMI costs. You pay part of your premium in advance, when you take out. The other portion is spread into monthly premiums and is usually included in your mortgage payment. This results in higher initial costs, but lower ongoing monthly costs.
4. Mortgage Insurance (LMPI)
With lender-paid mortgage insurance, your mortgage lender pays the bill for the policy. This can lower your monthly payments and your mortgage costs, but it comes with a price: most lenders charge a higherin return. This can increase your overall costs over the life of the loan, especially if you plan to live in the house for a long time.
How to Get Rid of PMI
You can contact your mortgage lender as soon as your loan repayment reaches the 20% equity threshold. While your lender is not required by law to remove PMI at this time, they must remove it once your home loan reaches 22% equity.
You can also contact your lender to ask about removing PMI if your home’s value has increased significantly since you bought it. If your lender is willing to remove the PMI requirement in this circumstance, he or she may ask you for a new home appraisal.
You may also be able to refinance your mortgage loan to remove PMI if your property value has increased since you bought the home. Keep in mind that there are additional costs associated with refinancing, so be sure to calculate your potential long-term savings carefully.
Paying off 20% on a conventional mortgage loan is no longer a standard requirement. However, if you make a smaller down payment, your mortgage lender may require you to buy PMI in return, which could cost you in the long run.
This coverage, which is purchased at your expense and typically paid as a monthly premium, protects your lender if you default on your mortgage loan until sufficient equity is established in the property. PMI can be removed once that equity is built or if the market value of the property rises.