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Private Mortgage Insurance

DEFINITION

Private mortgage insurance (PMI) is insurance required by mortgage lenders for homebuyers applying for conventional loans who have made a down payment that is lower than the standard 20%.

EXPLANATION

The main role of private mortgage insurance is to protect the lender in case the mortgagor defaults on their monthly payments. Although the main goal of PMI is to protect the lender, it also allows borrowers who may not qualify for conventional mortgages to apply for and get these mortgages even with a smaller down payment.

There are several methods through which borrowers can pay for PMI with the most common one being through monthly premiums. This method allows the borrower to make a single monthly payment that includes the PMI premium and their monthly mortgage payment. The next alternative is to make an upfront premium at closing; this is usually a one-time payment. The third method is to combine both an upfront payment and a monthly premium, which generally reduces the monthly premium paid by the borrower.

Are There Alternatives To PMI?

Some lenders might offer borrowers who do not have the typical 20% down payment mortgages that do not require PMI, but such loans usually have higher interest rates. Therefore, it is up to the borrower to decide which of the two loans meet their needs as in some cases the higher interest rates might make the loan more expensive than those with PMI.

Another option for such borrowers is to apply for FHA loans, which typically have provisions for lower down payments from borrowers who cannot get normal loans from other lenders. Prospective homebuyers should also consider waiting a little longer in order to save the 20% down payment required to get a conventional mortgage that does not require PMI.

Can You Cancel PMI?

If you bought a house with a small down payment and had to get PMI in order to qualify for your mortgage, you might want to get rid of the PMI payments after some time given that they are an additional cost to your monthly mortgage payment. The good news is that you can cancel private mortgage insurance, but you have to meet some conditions.

The fastest way to cancel PMI is to pay off your mortgage until you attain 20 percent equity in your home as measured by its original appraisal. This means that once your mortgage payments have reduced your loan balance to 80% of the value of your home, you have a right to ask the lender to cancel PMI. Furthermore, if the borrower’s loan balance declines to 78%, the lender must completely remove PMI.

You should remember that you cannot cancel mortgage insurance on FHA loans even if you attain 20% or more equity in your home. The only way to cancel this type of insurance is to refinance your home using a non-FHA loan.

Methods to Eliminate PMI Early

The best way to eliminate private mortgage insurance from your mortgage is to refinance your home, especially if its value has increased significantly. Refinancing at a period when interest rates are low can have a dual-benefit to the homeowner because it can help you cancel PMI, while consecutively reducing the interest payments on the house.

For example, a homeowner bought their home five years ago by putting a down payment of 10%. However, since that time, the home’s value has risen by 15%, which implies that the remaining balance on his mortgage is now less than 80% of his home’s current value. These conditions are perfect for the homeowner to refinance his home without having to pay PMI on the new mortgage.

Other methods to eliminate PMI early include increasing your monthly payments, which could allow you to gain 20% equity in your home within a short duration. You could always add improvements to your home such as a pool or an extra room, which could increase the value of your home. Lastly, you could always ask the lender if you can pay for a new appraisal in order to get a higher valuation and cancel the PMI on your current loan.

Prerequisites for Cancelling PMI

There are certain conditions that you must meet before a lender can consider and approve your request to eliminate the PMI on your mortgage.

1.            You must submit your request to cancel PMI to the lender in writing.

2.            You must have a good history of making payments and your payments must be current.

3.            Your home should not be acting as security for any other loans such as home equity lines of credit and home equity loans.

4.            In some cases, the lender might require a new appraisal to determine whether your mortgage balance is less than 80% of the current value of your home.

A Word of Caution

You should never forget that PMI does not protect you if you default on your monthly payments and the lender can easily foreclose on your home once you fall behind on these payments.

Most lenders typically charge higher interest rates and have more stringent conditions for borrowers who are regarded as high-risk mortgagors. You may be categorized in this group if you have failed to make some mortgage payments in the past.

The lender may also require the mortgagor to own a higher percentage of equity in their property, if the property has been transformed into a rental property.

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