What is Private Mortgage Insurance? Do I Need PMI? How Do I Avoid PMI?

If you are buying a home with less than 20% of your own equity, somewhere along the way you may hear the term Private Mortgage Insurance or PMI. 

Most first time home buyers deciding to buy their first home and start the mortgage process do not know they may need to get Private Mortgage Insurance to get a home mortgage.  It ends up being one more added expense when purchasing a home.

What is PMI?

As a borrower who puts less than a 20% down payment for a home loan you will most likely be required to pay Private Mortgage Insurance.    PMI will also be required if you refinance your home for less than 20% equity in your home.

The PMI policy insures the bank in case homeowner defaults on their mortgage.  While it does no protect you against foreclosure, it allows a bank to lend to low money down borrowers when they otherwise wouldn’t.

Without Private Mortgage Insurance, lenders would not loan money to home buyers who were putting down less than 20%.  First time home buyers would not have options to put as little as 3% down for a home without PMI.

PMI benefits the lender not you.  If you miss mortgage payments you will most likely end up in foreclosure.

How Does PMI Work?

Once you decide to get a home mortgage, the bank will determine if you need Private Mortgage Insurance or not. 

Your lender will reach out to a PMI insurer. They will decide how much and if there is an upfront fee along with monthly premiums or just monthly premiums.

Your loan estimate, which should be delivered within three days of applying for a loan will have all of your PMI details.

After closing your PMI payment is rolled into your monthly mortgage payment.

How Much Is PMI?

Private Mortgage Insurance premiums run between .3% and 1.5% of the purchase amount on a yearly basis. 

Premiums vary based upon how much you put down as a down payment, specifically your loan to value ratio and your credit score.  Homebuyers with bad credit will pay more of a premium than homebuyers with good credit.

On a $400,000 mortgage that requires Private Mortgage Insurance expect to pay $1200 to $7440 a year towards your premiums.  That translates into $100 to $620 a month in PMI premiums.

FHA Backed Loans and PMI

FHA loans are slightly different when it comes to Private Mortgage Insurance.  It is called Mutual Mortgage Insurance but it is essentially the same thing. 

The difference is FHA loan is a combination of an upfront fee at closing and monthly premium payments.  The other point about FHA and PMI is and FHA backed loan keeps the insurance premium over the entire life of the loan and it cannot be removed.

Do I Have to Get Private Mortgage Insurance?

The quick answer is yes you will need PMI.  If your down payment is less than 20% your lender will require you to pay PMI.  You just won’t really have many options to avoid it. 

How to Avoid Paying Private Mortgage Insurance

Private Mortgage Insurance is kind of a necessary evil and you do not have many options to avoid PMI

• A larger down payment of 20% or more and you avoid paying the monthly PMI premium.
• Find a loan program that does not have a Private Mortgage Insurance requirement.  They do exist but be aware they are what is called self-insured.  They do usually charge a higher interest rate to cover the equivalent of PMI.  Do not assume just because there is no PMI payment that that particular product is cheaper.  Do the math.
• Get a VA Loan.  VA Loans carry no PMI but they are for a limited group of buyers…. Veterans of the Armed Forces.
• A Piggy Back Loan.  Not very common anymore but a second loan for the balance of your down payment and the 20% would avoid a PMI payment.  A 80/15/5 was a common product 12 years ago.  meaning the first mortgage was 80% of the purchase price, the second mortgage was 15% of the purchase price and the buyer provided 5%.    Due to the last real estate downturn, the piggyback loan is generally no longer available.  As the real estate market strengthens we may see a rise in piggyback mortgages again thus allowing borrowers to eliminate PMI payments.

How To Remove PMI?

The good news is in most cases you can remove Private Mortgage Insurance somewhere down the road.  Here is how:

• Most lenders by law are required to drop PMI when a LTV of 78% is reached based on the original purchase price.  LTV meaning loan to value ratio…. your equity being 22% and the bank’s financial stake being 78%.   
• Prove to the bank you have 20% equity in the home through an appraisal.  Your equity stake may be higher because of an appreciating market or a significant home remodel.  The cost of the appraisal lies with the homeowner. But for about $500 in the cost of an appraisal, you could remove your costly monthly PMI payments.
• Refinance your home.  Refinancing is the sure fired way to remove PMI if you have a 20% equity stake in your home.  Make sure the numbers make sense because there is usually a cost to refinancing. 
• Pay down your mortgage.  Paying down your mortgage can get your equity stake down quicker.  Maybe you have had a significant income increase, an inheritance etc…  that now allows you to make extra payments or a one-time lump sum payment.

The government has enacted the Home Owners Protection Act or referred to as the Private Mortgage Insurance Cancellation Act, which gives a homeowner the right to remove PMI.  Read up on the law quickly before contacting your bank.

Before your run off half-cocked and get an appraisal, check with your lender what their policy is on removing PMI.  Not all banks will remove PMI at a 20% equity stake with an appraisal.

Final Thoughts On PMI

If you are putting less than 20% down on your home purchase, you will be paying Private Mortgage Insurance.

While your monthly PMI premiumes can be a tough pill to swallow at first, remember Private Mortgage Insurance allows borrowers to put a low down payment on a home.  It makes homeownership more obtainable for many who can’t get together a 20% down payment.

At the end of the day, PMI allows you to buy a home with very little money down.  Without it, you would have to save 20% which is a very hard thing to do.

Need help getting pre-approved? Give me a call and I will set you up with the right lender-  978-360-0422

Other Real Estate Resources:

• Consumer Financial Protection Bureau  About PMI
• Bill Gassett  Low Money Down Options for Home Buyers
• Kyle Hiscock   Hidden Costs of Buying a Home
• Luke Skar  The Home Buying Process Explained
• Anita Clark  First Time Home Buyer Tips

This article, What is Private Mortgage Insurance? Do I Need PMI? How Do I Avoid PMI? is written by Kevin Vitali of EXIT Realty.  If you are thinking of selling your home give me a call at 978-360-0422 or email me at kevin@kevinvitali.com

Real Estate Services in the following areas: Northeast Massachusetts, Merrimack Valley, North Shore and Metrowest. Including the following communities and the surrounding area- Amesbury, Andover, Billerica, Burlington, Chelmsford, Dracut, Groveland, Haverhill, Lowell, Melrose, Merrimac, Methuen, Middleton, North Andover, North Reading, Reading, Stoneham, Tewksbury, Tyngsborough, Wakefield, Wilmington, Westford