Understanding Private Mortgage Insurance
Private mortgage insurance is back in vogue. Do you know how it's going to affect your home purchase or refinance?
Some things in life can't be easily explained, like why the L.A. Lakers routinely lose to the Portland Trailblazers at the Rose Garden. Thankfully, private mortgage insurance (PMI)-the bane of homebuyers on a budget-isn't one of life's inexplicable mysteries.
In the mortgage lending heyday, lenders would bend over backwards to help borrowers avoid PMI. Now, it turns out, that was a bad idea. Lenders, struggling with too many defaults already, have a renewed interest in requiring you to maintain a mortgage insurance policy.
This means that you need to know what PMI is, and the impact it has on your home purchase or refinancing plans. Mortgage insurance protects your lender in case you default on your mortgage loan. This protection is in addition to the protection gained when the lender takes a security interest in your home. Lenders face the most risk when there isn't a sufficient cushion between the home's value and the outstanding loan amount. When this cushion is too small or even negative, lenders aren't able to recoup their funds after absorbing the costs of foreclosure. For this reason, they require PMI when your loan balance exceeds 80 percent of the home's appraised value.
If your lender requires you to carry mortgage insurance, you'll have to pick up the tab. The premiums will be added to your monthly mortgage payment, which limits your home-buying budget or reduces your savings when you're refinancing to a lower rate.
Mortgage down payment options
You can avoid PMI by scraping together a 20 percent mortgage down payment. Or, if you're refinancing, you can limit your loan amount to 80 percent of your home's appraised value. Either scenario might require you to hand over cash you don't have. If so, consider whether you can borrow some of the needed cash from your family or employer.
If you can't get around your lender's PMI requirement, you should at least know how to manage the extra expense. First, ask your lender to provide you with a few different quotes. If your lender has only one option, shop your entire loan to other lenders.
The next step is to know when you can request cancellation of your PMI. The Homeowners Protection Act of 1998, enacted the following year, gave homeowners the right to request PMI cancellation once the loan balance is less than 80 percent of the home's value. In years past, this usually happened through home value appreciation; in today's housing climate, however, that may take a while. You can expedite the process by making additional principal payments on your mortgage. Be aware that your lender will require an appraisal to verify that you no longer need the PMI.
Although private mortgage insurance can throw a wrench in your home financing plans, the program itself isn't terribly complicated-not at all like the Lakers' triangle offense.