Private Mortgage Insurance (PMI)

What is PMI?  How to cancel PMI.

[an error occurred while processing this directive]When your down payment is less than 20% you usually have to pay for Private Mortgage Insurance (PMI). This protects the lender in case you don't make your house payments. This doesn't mean you can blow off making your house payments -- if you fail to pay, the bank will still repossess your house. The insurance company will pay the bank the difference between 20% and the amount you actually put down. If you put down 5% and default, the insurance company pays the bank the other 15% that you didn't pay.

So the bank gets protected and you get to pay for their protection. What's in it for you? What's in it for you is that you get to buy a home for less than 20% down! Used to be that banks wouldn't give you a loan under any circumstances unless you made a large down payment because they felt it was too risky. But now with PMI, banks will take loans with very low down payments, sometimes even 0% down. That makes it much easier for you to get into a home.

There's no PMI on VA (veterans) loans, which is a nice bonus if you qualify for one of these.

You don't shop for PMI.  If your lender requires it, they'll choose it and add it automatically.

The PMI premium is paid monthly as part of your mortgage payment.  The smaller your down payment, the more expensive the PMI is.  My PMI Calculator will give you a good estimate.

PMI Calculator  (for 30-year loan)

Sale price

$

Down Payment

Interest Rate

%

Monthly payment (without PMI, taxes, or ins.)
$

Monthly PMI cost (est.)

$

Total PMI costs over the life of the loan

$

Another way to do it is to divide the loan amount by 1300, 1500, 2300, or 3700 for loans with down payments of 3%, 5%, 10%, or 15% respectively. For example, let's say you buy a $200,000 home and put 5% down. Your down payment is $10,000 and the morgtage is $190,000. Divide the $190,000 mortgage by 1500 and you get your monthly PMI cost, $127.

Canceling PMI

PMI is usually (but not always) canceled automatically once you own 22% of your home. It used to be that the insurance company would keep happily charging you the premium forever, since many homeowners didn't know they could cancel. This was obviously taking advantage of the uninformed homeowner, so now insurance companies are required by law to automatically cancel your PMI as soon as you own at least 22% of your home, based on the original purchase price, although in some cases they're not required to automatically cancel (which we'll cover in a minute). Assuming you qualify for automatic cancellation, here's how long it will take to reach 22% equity, depending on the length of the loan and the interest rate, ignoring any possible appreciation:

Time it takes to own 22% of your home
(for 5% / 10% and 15% down payments)
Interest Rate
15-year Mortgage
30-year Mortgage
6%
4 / 3 / 2 years
10.5 / 8.5 / 5.5 years
7%
4 / 3.5 / 2 years
11.5 / 9.0 / 6.5 years
8%
4.5 / 3.5 / 2.5 years
12.0 / 10.0 / 7.0 years
9%
4.5 / 3.5 / 2.5 years
13.5 / 11.0 / 8.0 years
10%
5 / 3.5 / 2.5 years
14.5 / 12.0 / 9.0 years

From this table you might think "Wait a minute -- on a 30-year loan I should own about half of my house after about 15 years, but with a 10% interest rate and a 5% down payment you're saying I'd own only 22%?! What gives?"

The answer is that because of how mortgage interest works, most of your payments in the early years goes to interest, not paying down your loan. On a 30-year loan of $100k at 7%, the payment is $665/mo., but when you make the first payment, a whopping $583 goes to interest, and a mere $82 goes towards owning the home. On 15-year loans a much higher percentage goes towards the home itself, which is why 15-year mortgages are a better deal if you can get them -- and why you should try to pay off your loan in 15 years anyway if you can't. There's more on this in our section about paying off a loan early.

But let's get back to PMI and canceling it. Of course, you don't have to wait for the automatic cancellation at 22%. You can write to the insurance company and ask them to cancel your PMI coverage as soon as you hit 20% equity.

And here's one more thing you can do: If your house has increased in value then you suddenly own a lot more of it, and you can cancel your PMI even earlier. For example, let's say you put $5,000 down on a $100,000 home, and in a couple of years the value shoots up to $119,000 because it's a hot real estate market. You own the $5000 you put into the house, plus the $19,000 it increased, for a total of $24,000. (You also own the equity you built from making mortgage payments, but because of how mortgage interest works, most of your payments for the first few years goes to interest and not principal, so we'll ignore paid equity for our example.) So the $24,000 you own divided by the $119,000 value of the home means you own over 20% of your home. So you don't need PMI any more. But to cancel the PMI you'll need to convince the lender that your home is really worth $119,000 now, so you'll have to pay for an appraisal which might run $400 or so. You'll have to weigh the cost of the appraisal against the amount you'll save by canceling PMI early to see if it's a good deal for you.

 

When PMI is canceled automatically and when it isn't

Don't assume your PMI will be canceled automatically. Check this table.

Canceled Automatically
if ALL are true

Not Canceled Automatically
if ANY are true

Conventional loans

FHA loans

Loan signed on or after July 29, 1999

Loan signed earlier than that

All mortgage payments have been made on time in the year prior to PMI cancellation

Any mortgage payments have been late

Buyer is not considered high risk

Buyer is considered high risk


References

  • Article examining the overall advantage of PMI to homeowners, Auburn University, 1997



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