PMI is an acronym for Private Mortgage Insurance. PMI allows a borrower to get a mortgage with a lower down payment. However, there is a cost for private mortgage insurance.
Lenders will typically require a home buyer to make a down payment of 20%. Certain programs, such as FHA loans, veterans loans, and RHS loans, require much smaller down payments, or no down payments at all.
If you're not going through one of these programs, though, and you can't come up with a 20% down payment, your lender will require you to get private mortgage insurance (PMI). With private mortgage insurance, the lender is protected if the borrower should default on the loan.
With PMI, you can get a down payment of 5% or even less. However, private mortgage insurance comes at a cost; PMI premiums can add as much as a full percentage point to the cost of the mortgage.
There are a variety of ways in which the PMI premiums can be paid. The lender may allow you to include the entire premium in your mortgage, in which case you will be making the premium payment with each monthly mortgage payment. Premiums can also be paid annually, with the first year's premium payment due at closing. Or the entire premium can be paid as a lump sum at closing.
The PMI premium is based upon a number of factors, including the type of mortgage you're applying for, the amount of coverage the lender requires, and the loan to value (LTV) ratio on the home you're looking to buy.
You can eliminate your PMI premium at some point in your mortgage. For example, once you have 20% or more in equity in your home, you can ask that the private mortgage insurance be cancelled. If your home has increased in value, you can ask your lender to cancel your PMI, although the lender usually has a minimum wait time of two years or so before accepting the increased value in your home as a reason to cancel your premium.
The Homeowner's Protection Act of 1998 set rules for either automatic cancellation or borrower cancellation of PMI. The law applies to many mortgages signed on or after July 29, 1999.
The law requires termination of the PMI once equity in the home reaches 22% of the original value of the home. However, in order to qualify for this automatic termination, you must be current with your mortgage payments, not be considered a risk for default, not have a poor payment history, and not have liens on your property.
The Homeowner's Protection Act also requires that your lender tell you at closing and once each year about the PMI termination and cancellation laws. The lender must also provide you with a phone number you can call for termination and cancellation information.
If you're unable to make a 20% down payment on a mortgage, PMI may be your best bet. But be sure to ask your lender about all of the details, so you'll know the costs involved.
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