Avoid Private Mortgage Insurance (PMI) on Your Home Loan
Laura explains what private mortgage insurance (PMI) is and how to avoid paying it. Find out your rights for cutting this expense as quickly as possible so you reduce your mortgage payment and save more money.
If you’re buying a home or refinancing your mortgage, the last thing you want to hear is that the lender is tacking on an additional fee, called private mortgage insurance or PMI, to your monthly payment.
In this post I’ll explain what private mortgage insurance is and how to avoid paying it in the first place. If you’re already paying PMI, you’ll learn your rights for getting rid of it as quickly as possible so you can lower your mortgage payment and save more money.
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What Is Private Mortgage Insurance (PMI)?
PMI is a special kind of insurance that lenders typically require you to purchase when you take out a conventional home mortgage with less than a 20% down payment. In other words, when you borrow more than 80% of the value of a property, expect to pay PMI—even if you have excellent credit.
For example, let’s say you want to buy a house for $200,000 and have $20,000 in savings for a down payment. Since you’ll need to borrow the difference of $180,000 or 90%, you’d generally be required to pay PMI. I’ll tell you more about the cost of PMI in just a moment.
The amount you borrow divided by your home’s value is called the loan-to-value (LTV) ratio. The higher your LTV on a property, the riskier you are to a lender. So they mitigate their risk by requiring you to buy PMI.
But remember that mortgage insurance protects the lender, not you. It covers a percentage of your lender’s loss if you can’t pay your mortgage and they have to foreclose.
The only benefit that a borrower gets from PMI is that it makes it possible to qualify for a home loan that you might not otherwise be able to get.
See also: Should You Get or Pay Off a Home Mortgage?
How Much Does Private Mortgage Insurance (PMI) Cost?
PMI could range from 0.20% to 1.5% of the balance on your loan each year. The annual cost is typically divided into 12 premiums and added to your monthly mortgage payment.
You’re probably wondering how much PMI will cost if you can’t make more than a 20% down payment on a home. It varies depending on the type of mortgage, how much you put down, your credit, and the term of the loan.
PMI could range from 0.20% to 1.5% of the balance on your loan each year. The annual cost is typically divided into 12 premiums and added to your monthly mortgage payment.
Let’s say you buy the $200,000 home from my previous example. You take out a 30-year, fixed mortgage for $180,000. With a 90% LTV and good credit, your PMI will be close to $100 per month.
Some lenders may require you to pay a one-time PMI fee at closing, or ask for both monthly premiums and an upfront payment. If your lender offers more than one option, ask for a detailed pricing comparison so you can weigh the pros and cons and see what PMI structure is best for you.
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Mortgage Options When You Have a Small Down Payment
Lenders may offer low-down payment conventional loans with no PMI; however, they typically come with higher interest rates. What’s right for your situation depends on factors such as how long you plan to keep the mortgage, your credit, and the going interest rate.
If you don’t have much for a down payment, consider other types of mortgages backed by the federal government:
- Federal Housing Administration (FHA) loans are available with as little as 3.5% down, even if you don’t have good credit. Mortgage insurance is required, but you can roll it into your loan instead of paying for it out of pocket. That causes your loan amount and the lifetime cost of your loan to increase. It also means that (unlike with a conventional mortgage) you can never cancel mortgage insurance on an FHA loan.
- Department of Veterans’ Affairs (VA) loans are available for service members, veterans, and surviving spouses. They require no down payment or mortgage insurance, but they do come with an upfront funding fee. It varies depending on factors like your type of military service, disability status, whether you make a down payment, and if you’ve had a VA loan before.
These types of mortgages may be more or less expensive than a conventional loan with PMI, so be sure to compare all your options carefully.
See also: Best Mortgage Company to Shop Your Home Loan
Is Private Mortgage Insurance (PMI) Tax-Deductible?
One upside to PMI is that it’s a tax-deductible expense when you itemize deductions on Schedule Aopens PDF file .
One upside to PMI is that it’s a tax-deductible expense when you itemize deductions on Schedule Aopens PDF file . This applies to monthly premiums or PMI fees paid on conventional, FHA, or VA loans issued after 2006.
However, there’s an income restriction to qualify for the PMI deduction. Your adjusted gross income can’t exceed $109,000, or $54,500 if you’re married and file a separate tax return. How much PMI you paid during the year is listed on Form 1098, the annual statement you receive from your lender.
See also: A Blueprint to Prioritize Your Personal Finances
How to Get Rid of Private Mortgage Insurance (PMI)
I mentioned that it’s possible to get rid of PMI on a conventional mortgage. The rules lenders have to follow for canceling PMI are part of the Homeowner’s Protection Act (HPA) of 1998.
If you’re currently paying PMI, you should have received a document at closing with information about your rights for canceling it. You should also receive an annual notice reminding you that you can request cancelation under certain conditions.
There are three ways to cancel PMI:
- Request cancelation – after you pay down your mortgage balance to 80% of the original value of the property. You must pay the lender for an appraisal in order to prove that the current market value of your home isn’t lower than what you paid for it. The fee could range from $300 to $1,000, depending on the size and location of your home.
- Automatic termination – by the lender when your mortgage balance reaches 78% of the original value of the property. In this case, you don’t have to pay for an appraisal because even if your home value is lower than what you paid for it, the lender must still cancel your PMI.
- Final termination – happens at the midpoint of your loan when you have an interest-only product, have a balloon payment, or were given forbearance by your lender. For example, if you have a 30-year, interest-only mortgage, your lender must cancel your PMI after 15 years–even if you haven’t paid it down to 78% of your home’s original value.
However, be aware that your lender can deny your request for PMI cancelation under certain situations. You could be denied if you made late payments over the past two years, have a lien on the property, or have a high-risk loan over a certain amount.
You must be current on all monthly payments in order to have PMI cancelled either as a request, automatically, or with a final termination.
See also: Got Cash? What to Do With Extra Money
How to Know When to Cancel Private Mortgage Insurance (PMI)
If you’re a homeowner with a mortgage, it’s important to know when you can cancel PMI so you don’t needlessly pay for it.
If you’re a homeowner with a mortgage, it’s important to know when you can cancel PMI so you don’t needlessly pay for it. Watch out for the following situations that might enable you to stop paying it sooner rather than later.
- The value of your home has risen. Home prices in many areas haven’t rebounded since the last recession. However, your home’s market value may still be up compared to its original purchase price, which could lower your loan-to-value ratio.
- You remodeled your home. Home improvements increase the market value of your home, which can get you closer to the 80% loan-to-value requirement to request a cancelation. However, if you took out a home equity loan or line of credit to finance the work, that reduces your equity.
- You paid down your mortgage. If you sent extra monthly payments or made a lump sum payment on your principal balance, having a reduced loan balance may have lowered your loan-to-value ratio. So getting rid of PMI is a great goal once you’re consistently investing for retirement, have a healthy emergency fund, and are free of high-interest debt.
See also: When Not to Pay Off Your Mortgage Early
Here’s a quick and dirty tip: Multiply your current mortgage balance by 1.25. That’s the minimum amount your property must be worth in order for you to have an 80% loan-to-value ratio.
If you believe your property could appraise for that amount, contact your lender and find out how to move forward with a PMI cancelation, such as requesting it in writing and paying for an appraisal that they order on your behalf.
The sooner you get rid of private mortgage insurance, the more money you can save each month by paying less for your home.
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About the Author
Laura Adams received an MBA from the University of Florida. She’s an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura’s previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.
