Mortgage Insurance

What is Mortgage Insurance?

Mortgage Insurance, also known as “Private Mortgage Insurance” or “PMI” is insurance the borrower pays and protects the lender if the borrower defaults.

Mortgage insurance is a monthly fee that goes on top of your mortgage payment. The advantage of Mortgage insurance is that it allows you to purchase a home before saving up a 20% down payment. Since these loans carry higher risk, the lender often requires the borrower to obtain mortgage insurance to protect them.

When is Mortgage Insurance Required?

Mortgage insurance is required when your down payment is less than 20%

FHA loans and VA loans always require mortgage insurance.

How do I avoid Mortgage Insurance?

There are creative financing programs that either allow you to avoid mortgage insurance by taking a higher interest rate or by structuring an 80/10/10 loan.

If you are going higher interest rate expect .75 percent to 1 percent high rate depending on the down payment amount. One advantage of taking a higher interest rate is that mortgage interest is tax-deductible whereas PMI is not.

With the 80/10/10 option, you avoid PMI by getting a second mortgage. 80% loan is for the first loan, a 10% loan for the second, and the final 10% is your down payment.

How much does Mortgage Insurance Cost?

Private mortgage insurance cost varies depending on the loan size (95%, 90%, or 85%) and your credit score as a borrower. A good estimate is $75 per month for each $100,000 loan. Mortgage PMI typically ranges from $350/mo. to $500/mo. in Los Angeles.

$200,000 = $150/mo
$300,000 = $225/mo.
$400,000 = $300/mo.
$500,000 = $375/mo.
$600,000 = $450/mo.
$700,000 = $525/mo.

How do I remove Mortgage Insurance?

For many homeowners, they can’t wait to get rid of their mortgage insurance (Who wouldn’t want $300 to $400 per month back in their pocket each month?). According to the Homeowners Protection Act of 1998, mortgage insurance is automatically removed when the loan is reduced to 78% of the original purchase price.

There are two ways to reduce the Loan to value to 80%, amortization and price appreciation.

Lets take a look at an Amortization Example:

Lets compare a $300,000 purchase price, 30 year fixed rate, 4% interest rate, with 5%, 10% and 15%  down payment.

Down
payment
Original Loan Amount
PMI Drop off AmountLength
to get there
5%$285K$234K9 yrs
10%$270K$234K6 yrs
15%$255K$234k5 yrs

So from the example above you can see that it takes 5 – 10 years for amortization to remove PMI or about 7 years on average. If you are fortunate and prices appreciate while you own the property that can speed up the removal of mortgage insurance.

Let’s consider a second Scenario of a $300,000 purchase. Let’s suppose the market  increases 2% each year.

Down
payment
Original Loan Amount
PMI Drop off Amount with 2% appreciationLength
to get there
5%$285K258K5 yrs
10%$270K255K3 yrs
15%$255K252K1.5 yrs

As you can see the time to remove mortgage insurance in our example was halved with 2% annual appreciation. 

If you are only relying on amortization to remove PMI the lender will automatically remove it once you reach 78% of the original loan balance. If appreciation has occurred and you want to remove PMI early, you need to request the bank to review your loan. The first thing they will do is hire an appraisal. You have to pay for the appraisal. This type of appraisal will be similar to a refi where they will be a little more conservative then with a purchase loan. If the appraisal comes in at a value that shows you have 20% equity in the property the bank will remove PMI. If the appraisal isn’t high enough, you are out the $400 or $500 you had to pay and will have to wait to try again.  

What about FHA Mortgage Insurance?

FHA PMI use to be removable but in the last housing downturn in 2007 through 2009 the FHA lost so much money that they upped their Mortgage Insurance fee and if you put 10% down or less mortgage insurance may not be removed for the life of the loan. In order to get rid of PMI on this loan, you will need to refinance into a new loan. In addition to the montly fee the FHA loan requires an upfront fee of 1.75% of the loan balance as well. FHA loans have high fees but allow you to put down the least money possible at just 3.5%

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