What is mortgage insurance and why would you need it?
- Private mortgage insurance, PMI, is often required with a conventional loan
- You can cancel PMI once you build up enough equity, at least 20%
- Some government-backed loans also have mortgage insurance requirements
FILE – In this Oct. 6, 2020 file photo, a real estate brokerage sign stands in front of a house in Norwood, Mass. (AP Photo/Steven Senne)
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(NewsNation) — If you’re buying a home and putting less than 20% down, there’s a good chance you’ll need to pay for mortgage insurance.
Although the borrower pays for it, mortgage insurance is meant to protect lenders and buyers are often required to get it in order to secure a loan.
Here’s what to know.
What is mortgage insurance?
Mortgage insurance is an insurance policy that protects the lender in case you fall behind on your payments. That means you pay for the coverage and the lender gets compensated by the insurance company if you default.
It lowers the lender’s risk, allowing you to qualify for a loan you might not otherwise be able to get, but it also increases the cost of your loan.
Mortgage insurance is meant to protect the lender, not the borrower, so if you don’t make your mortgage payments you could still face foreclosure.
Why would you need mortgage insurance?
Typically, borrowers who put down less than 20% of the purchase price of the home need to pay for mortgage insurance, according to the Consumer Financial Protection Bureau (CFPB).
More specifically, those who take out a conventional loan may be required to buy private mortgage insurance (PMI) which is arranged by the lender and provided by private insurance companies.
Some government-backed home loans also require mortgage insurance.
Those who get a Federal Housing Administration (FHA) loan are required to pay a mortgage insurance premium (MIP). In that scenario, your premiums go directly to the FHA.
If you get a U.S. Department of Agriculture (USDA) loan, the program is similar to the Federal Housing Administration, but typically cheaper, per the CFPB.
With Department of Veterans’ Affairs (VA)-backed loans there is no monthly mortgage insurance premium but you are required to pay an upfront fee which depends on several factors like the size of your down payment and type of military service.
How much does mortgage insurance cost?
Private mortgage insurance typically costs anywhere between 0.22% to 2.25% of your mortgage, according to Chase Bank. The exact cost depends on factors like your credit score and the size of the loan.
Borrowers with high credit scores typically get lower PMI percentages and PMI expenses tend to be higher for larger mortgages, Chase said.
Generally, you’ll pay a monthly premium but some lenders may let you pay the full insurance cost upfront.
FHA mortgage insurance includes both an upfront cost, which gets paid at closing, and a monthly cost, included in your monthly payment. Unlike PMI, it costs the same regardless of your credit score and there’s only a slight increase in price if your down payment is less than 5%.
Can you avoid mortgage insurance?
The simplest way to avoid private mortgage insurance is to make a down payment of 20% or more. On the other hand, that may change the type of home you can afford.
The good news is that PMI usually ends before your loan does. Once you build up enough equity in your home you have the right to ask your servicer to cancel PMI.
You can request PMI be canceled when you reduce the principal balance on your mortgage to 80% of the original value of your home, according to the CFPB.
Even if you don’t ask, in general, your servicer must automatically cancel PMI when your mortgage balance reaches 78% of the original value of your home, per the CFPB.
