For conventional mortgages, private mortgage insurance (PMI) generally costs around 0.2% to 2% of the loan amount per year, but can sometimes be much more. The exact amount you’ll pay could depend on the type of loan, the insurance provider, your credit score, and your loan-to-value (LTV) ratio.
Here’s a closer look at how PMI can impact your total mortgage cost, and how you may be able to save money by canceling your PMI.
If you’re making a down payment of less than 20% on a home, it’s essential to understand your options for private mortgage insurance (PMI). Some people simply cannot afford a down payment in the amount of 20%.
Others may elect to put down a smaller down payment in favor of having more cash on hand for repairs, remodeling, furnishings, and emergencies.
What Is Private Mortgage Insurance (PMI)?
Private mortgage insurance (PMI) is a type of insurance that a borrower might be required to buy as a condition of a conventional mortgage loan. Most lenders require PMI when a homebuyer makes a down payment of less than 20% of the home’s purchase price.
When a borrower makes a down payment of less than 20% of the property’s value, the mortgage’s loan-to-value (LTV) ratio is over 80% (the higher the LTV ratio, the higher the risk profile of the mortgage for the lender).
Unlike most types of insurance, the policy protects the lender’s investment in the home, not the individual purchasing the insurance (the borrower). However, PMI makes it possible for some people to become homeowners sooner.
For individuals who elect to put down between 5% to 19.99% of the residence’s cost, PMI allows them the possibility of obtaining financing.
However, it comes with additional monthly costs. Borrowers must pay their PMI until they have accumulated enough equity in the home that the lender no longer considers them high-risk.
PMI costs can range from 0.25% to 2% of your loan balance per year, depending on the size of the down payment and mortgage, the loan term, and the borrower’s credit score. The greater your risk factors, the higher the rate you’ll pay.
And because PMI is a percentage of the mortgage amount, the more you borrow, the more PMI you’ll pay. There are several major PMI companies in the United States. They charge similar rates, which are adjusted annually.
While PMI is an added expense, so is continuing to spend money on rent and possibly missing out on market appreciation as you wait to save up a larger down payment. However, there’s no guarantee you’ll come out ahead buying a home later rather than sooner, so the value of paying PMI is worth considering.
Some potential homeowners may need to consider Federal Housing Administration (FHA) mortgage insurance. However, that only applies if you qualify for a Federal Housing Administration loan (an FHA loan).
How PMI Works
A PMI is an insurance policy that protects lenders from borrowers who miss payments. You’ll typically pay PMI if you put down less than 20% when you take out a conventional loan to buy a house. But it’s also one of the few ways to get a loan that’s not backed by the government if you want to make a low down payment.
If your lender requires PMI on your loan, you’ll usually pay the premium as part of your monthly mortgage bill. Some lenders may also give you the option of paying the entire amount upfront or paying some amount upfront and some with your monthly payment.
Lenders may also offer PMI-free conventional mortgages with down payments of less than 20%. These loans could have lender-paid private mortgage insurance (LPMI), however, and you may wind up with a higher interest rate instead.
While PMI will increase your monthly payment, it’s not all bad. Unlike mortgage insurance requirements on certain government-backed loans, such as the mortgage insurance premium (MIP) on Federal Housing Authority (FHA) loans, you don’t have to pay PMI for the lifetime of your loan.
It may be automatically canceled by your lender, and there are several ways to proactively get rid of it. More on that below.
Mortgage Insurance Cost
Depending on factors like your loan type, credit history, and down payment, mortgage insurance costs can vary. But you can expect to pay between $30 and $70 per month for every $100,000 you borrowed, according to Freddie Mac.
With a USDA loan, you can expect your annual mortgage insurance rate to be 0.35% with a 1% upfront payment. FHA loan annual mortgage insurance rates currently vary between 0.8% and 1.05%, with a 1.75% upfront fee.
Suppose you buy a $300,000 home with a 3.5% down payment, for example. This means you must borrow $289,500. If you have a 30-year term with a 2.71% interest rate, you’ll pay an extra $114.54 (0.85%) in MIP with a UFMIP of $5,066.25.
The Real Cost of PMI
While PMI will increase the initial cost of your monthly payments, it could be a worthwhile tradeoff. You might be able to purchase a home sooner if you didn’t need to put 20% down. Or, you may be able to buy a larger or nicer home rather than making a large down payment.
You could also compare a conventional loan with PMI to a government-backed mortgage loan with MIP to see which offers the lowest monthly payment. A 2021 report from the Urban Institute shows the initial monthly payments for a conventional loan with PMI and an FHA loan with MIP based on borrowers’ down payments and credit scores.
The monthly figures are for a $275,000 home, and the amounts don’t account for some expenses, such as homeowners’ insurance or property taxes.
In general, if you’re not putting much down or you don’t have good credit, an FHA loan may have lower monthly payments. But you could be better off with a conventional loan and PMI if you have a good credit score or can afford a larger down payment.
You may be able to avoid paying for mortgage insurance with other types of government-backed mortgages, such as U.S. Department of Agriculture (USDA) loans and loans through the Department of Veterans Affairs (VA).
But you could pay upfront or monthly fees instead. If you qualify for either type of loan, you’ll want to consider the upfront and m onthly costs for these as well.
Also, consider how long you plan on living in the home and whether you’re likely to refinance your mortgage. An FHA loan’s insurance premiums could remain for the life of the loan, which may increase your long-term costs. But there are several ways to cancel your PMI and lower your monthly payment.
How to Cancel PMI
You may need to pay a PMI premium when you first buy your home, but there are also four ways to get rid of PMI:
- Automatic cancellation: By law, your mortgage servicer can’t require you to pay for PMI forever. It must automatically cancel the policy when you’re scheduled to reach 22% equity (in other words, the principal balance is 78% of the home’s original value), or when you’re halfway through the repayment term. The timeline is based on the original loan’s repayment schedule and value.
- Request cancellation: You may request a cancellation a little earlier—once you reach 20% equity based on the home’s original value. However, you may need to meet other qualifications, such as not having a second mortgage, and you may have to pay for an appraisal.
- Reappraise your home: While the above methods depend on the home’s original value, you may be able to pay for a reappraisal and request the PMI be canceled based on the current value and your equity. This can be beneficial if your home has quickly appreciated in value or if you’ve made home improvements that increased its value.
- Refinance your mortgage: Another option is to replace your mortgage with a new one. If you have at least 20% equity based on the current valuation, you may qualify for a conventional loan without PMI.
You may want to get rid of PMI as soon as possible to lower your mortgage payments. There’s little downside, as the insurance doesn’t protect borrowers.
Focus on Your Credit and Down Payment
As you prepare to buy a home, consider how much you can afford to put down and whether you can improve your credit before applying for a loan. Higher down payments and credit scores can help you qualify for a mortgage with more favorable terms.
And, if you need to get PMI, they could lead to paying less in premiums. You can check your Experian credit report for free online. After creating your account, you can also get personalized recommendations for improving your credit based on your unique credit profile.
Credit scores don’t just affect mortgage and homeowners’ insurance rates; they also affect PMIS. Here is an example of how factors such as creditworthiness impact the cost of mortgage insurance:
Consider two individuals who each want to buy a home valued at $100,000 and can each put down $10,000, or 10% of the value of the home.
Although they can make the same down payment, their credit scores are major determinants when it comes to the cost of their mortgage insurance policies. To show this, we graphed the price difference across credit score silos for a mortgage insurance policy offered by Radian.
The policy is for a borrower-paid mortgage insurance policy that covers a fixed-rate loan with a term longer than 20 years. You can see that if Borrower A has a FICO credit score of 760 or higher and Borrower B has a score lower than 639, Borrower B’s mortgage insurance premiums would cost 4x Borrower A’s.
How Loan-to-Value (LTV) and Claim Payout Ratios Affect PMI Costs
In addition to FICO credit scores, companies price PMI premiums according to the loan-to-value (LTV) ratio of a mortgage and what percent of the loan is recovered if a claim is filed. It might sound complicated, but calculating these factors for a policy is easy.
Most mortgages must be insured if they have a loan-to-value ratio (LTV ratio) of 80% to 97%. In other words, if a borrower can only make a down payment of between 20% and 3% of the value of a home, they will likely need a mortgage insurance policy.
But not all LTV ratios are treated the same. In the table below of a mortgage insurance policy offered by Genworth Mortgage Insurance Corporation, the difference between the LTV ratio and the cost of the policy are clear.
The rates are for borrower-paid annual premiums for nonfixed rate mortgages and are based on LTV ratios, the coverages offered within each ratio, and the cost of the premiums for each PMI policy given the risk pool (the FICO score of the borrower).
The annual premiums are the percentages of the original amount of the mortgage loan in each FICO score column. For example, if a homeowner with a FICO credit score higher than 760 borrowed $100,000, that equated to 92% of the value of the home they purchased.
If their mortgage lender took out a policy to cover 35% of the $100,000 loan amount, the borrower’s PMI premium would be 2.56% of that amount or $2,560.
PMI Rate Adjustments
Insurance companies also apply price adjustments to the above base rates. For example, Genworth Mortgage Insurance Corporation, for example, offers mortgage insurance and applies several common adjustments that increase and decrease the cost of premiums.
Some of the company’s adjustments cut the cost of premiums, such as those for mortgages with an amortization term of 25 or fewer years and for corporate relocation loans.
Other adjustments that increase the cost of premiums are for situations in which any loan amount is greater than $417,000 and for mortgages on secondary homes and investment properties.
Below is an example of the five adjustments that have the biggest impact on the base rate of a mortgage insurance policy. Like Genworth, Radian also has adjustments that decrease the cost of a borrower’s premium; however, those are not included in the chart.
There can be exceptions within the adjustments that carriers apply to premiums. One common adjustment exception is for mortgage insurance premiums in Hawaii and Alaska. Unlike the continental U.S., adjustments to the cost of premiums based on loan amount begin at $625,000 instead of $417,000 in Alaska and Hawaii.
If you’re looking for ways to avoid PMI on your first home purchase, there are a variety of methods out there, but beware that many of these might actually cost you more in the long run.
The Bottom Line
Mortgage insurance costs borrowers money, but it enables them to become homeowners sooner by reducing the risk to financial institutions of issuing mortgages to people with small down payments.
You might find it worthwhile to pay mortgage insurance premiums if you want to own a home sooner rather than later for lifestyle or affordability reasons. Adding to the reasons for doing this: Premiums can be canceled once your home equity reaches 80% if you’re paying monthly PMI or split-premium mortgage insurance.
However, you might think twice if you’re in the category of borrowers who would have to pay FHA insurance premiums for the life of the loan. You might be able to refinance out of an FHA loan later to get rid of PMI.
On the other hand, there’s no guarantee that your employment situation or market interest rates will make a refinance possible or profitable.
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