If you’ve ever looked into getting a mortgage, you’re familiar with the term PMI. But how much do you know about it? Do you know what it stands for? What it is? How to avoid it? Let’s dig into PMI and how it impacts real estate transactions.
What is PMI?
PMI stands for “Private Mortgage Insurance”. It protects the lender on a mortgage when the down payment is between 3% and 19.9%. The person who takes out the mortgage pays this insurance premium to the lender as an assurance that the lender will be covered (in the event the borrower stops paying the mortgage).
Whereas most insurance we buy is to cover ourselves, it’s important to note that PMI covers the lender. So why would you care about that? In order to secure a loan with a lower down payment, PMI is the price you pay. (Unless you take out a loan to cover that down payment, but that’s a different post all together!)
PMI is generally associated with conventional loans, as these are not guaranteed by FHA, the VA or a program like CalVet.
How is PMI Paid?
There are three general ways that PMI is paid - monthly, all at once, or a combo.
- Monthly - This is the most common method of payment. The fee will be wrapped into your monthly mortgage payment, so you won’t have to think about it. Your monthly mortgage payment will cover principal, interest, taxes and PMI.
- All At Once - Less common is the lump sum payment at time of closing. If this is the case with your loan, it should be made clear in your loan estimate so be sure to read closely.
- Combo - Think of the combo as being like a mortgage - you pay a “down payment” at closing, and then pay monthly premiums to pay off your PMI. This serves to make your monthly payment lower, but does require more out of pocket at closing, which is what you were trying to avoid by having a lower down payment in the first place.
How can you avoid PMI?
For starters, you could look to take out a lower value loan. One of the benefits of PMI is that it allows borrowers to get into loans that they might not otherwise qualify for, because they don’t have the full down payment. If you find yourself in this situation, you may want to reconsider the purchase price range you’re looking at and see if you can drop yourself down to a lower loan amount.
Another approach is to look at getting an FHA or VA loan. If you meet the qualifying criteria, these can allow you to put less money down (as low as 3.5% for FHA,) and avoid PMI as the debt is insured by FHA or VA. That being said, the high end limit for an FHA loan is currently $726,525, which may not help you as much as you need on the Peninsula.
As always, shop your loan. Only by talking to different lenders can you get a clear picture of all your options. Some lenders may have programs that are more favorable to the situation you are in. Not all loans programs are the same.
What to do when PMI is “paid in full”
PMI can be removed when you have a minimum of 20% equity in your home. Conveniently, it’s up to the borrower to track their principal payments and determine when they have reached a loan value that is less than 80% of the original price of the home. Once that milestone has occurred, the borrower can contact the lender and request PMI cancellation.
The good news is that once the mortgage balance drops to 78% of the original value of the home, the lender is required to automatically eliminate the PMI. But it’s still good to stay on top of that so you can request the PMI be cancelled at 80% and avoid additional payments.
Additionally, once you reach the mid-term of the loan (15 years for a 30-year fixed,) the PMI is required to be removed.
Finally, if the value of your home has increased significantly and you believe your equity is now 20% or higher against the current market value, your lender may allow you to cancel your PMI payments if the professional appraisal they require supports your assumption. It doesn’t hurt to ask.
Bottom line, PMI is a necessary evil for many home buyers here on the Peninsula. Given the costs of our real estate and the size of the typical mortgage, it’s not uncommon to have to deal with PMI. Talk with your lender and figure out the best path forward for you.
And if you need a good lender to talk to, let me know. I’ve got a couple of great ones I’d be happy to introduce you to.
IMPORTANT NOTE: I have not and will not verify or investigate the information supplied by third parties.