PMI: What Is Private Mortgage Insurance and How Does It Work

Private mortgage insurance, also known as PMI, is required when you buy a home with less than 20 percent down. Mortgage insurance lowers the risk of lenders, and it is very common for government-backed loans, such as USDA or FHA mortgages, which allow minimum down payment.

What Is It?

Private mortgage insurance, or PMI, is a type of insurance that conventional mortgage lenders require when homebuyers put down less than 20 percent of the home purchase’s value. The insurance protects lenders against losses if the homeowner defaults on the mortgage loan. When you have a PMI, you will need to pay an extra fee in addition to your mortgage principal, interest, property taxes and homeowners’ insurance every month. Usually, when you build up equity equal to at least 20 percent of your home’s value, you can contact your lender to stop paying PMI. Reaching 20 percent equity can happen through paying down your loan balance over time or through rising home values. Therefore, loan services have to terminate PMI on the date that your loan balance is scheduled to reach 80 percent of the home’s original value.

How Much Does PMI Costs?

The cost of PMI depends on your credit score and down payment, but generally it ranges from 0.58 percent to 1.86 percent of the original loan amount each year. Your credit score has a great influence on your PMI premiums. The higher your credit score, the lower your PMI rate typically is. For instance, if your home is valued in $300,000, and you make a down payment of $30,000 (10%) and your interest rate is 3%, your PMI per month will be $176. In total, your monthly payment will be $1,314. However, with this same example, if you make a down payment of $60,000 (20%), your total monthly payment will be $1,011.

How Do I Make PMI Payments?

Generally, it depends on the lender and the type of your mortgage loan. But borrowers can opt to make a lump-sum payment each year, or the premium may be added to your monthly payment. If you are thinking of refinancing your mortgage, a lump-sum may not be a good idea because the payment is not always refundable. The third option allows you to make a partial upfront payment and roll the rest into your monthly mortgage bill.

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Do All Lenders Require PMI?

Usually, most lenders require PMI for conventional loans with a down payment less than 20 percent. However, there are exceptions to this rule. For example, VA loans do not require PMI, which can be helpful for borrowers who do not have enough money to make a large down payment. Moreover, other government-backed loan programs like FHA loans require their own mortgage insurance, though the rates can be lower than PMI.

How Do I Avoid Private Mortgage Insurance?

  • Put 20 percent down. A 20 percent down payment is the best option if you have a conventional loan.
  • Government-insured loan. You can look at other types of mortgage loans to make sure you are getting the right one for your situation. For example, FHA loans come with two types of mortgage insurance premiums: one paid annually and another paid upfront.VA and USDA loans do not require a private mortgage insurance.
  • Cancel PMI later. If you already have PMI, keep track of your loan balance and area home prices. Once the loan balance reaches 80 percent of the home’s original value, you can ask the lender to stop paying PMI.

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