All parties in a given mortgage and homebuying situation must be protected from certain risks, and this includes not only buyers and sellers, but also mortgage lenders. That’s where private mortgage insurance, or PMI, comes in.
At Supreme Lending, we're happy to speak with you at length and walk you through all the important financial obligations you may carry with a home loan, including any forms of insurance you're either required or recommended to have. What is private mortgage insurance, when is it required, what types are there, and when can it be removed from a loan? Here's a summary of what you need to know.
Basics on Private Mortgage Insurance
When we talk about private mortgage insurance, we're referring to insurance that homebuyers are typically required to take out when they're putting less than 20 percent down on a home loan. The idea behind this insurance is to protect the lender in case the borrower defaults on the loan. Payments for PMI are added to your monthly mortgage bill, but are actually funneled to the insurance company in the event that the lender needs to make a claim.
It's important to note that PMI is not homeowners insurance, which protects against things like fire damage or theft. PMI is required by lenders, and it only covers the lender in case of default. It is not used to protect homebuyers’ interests.
In many cases, having PMI allows borrowers to buy a home sooner than later, without having to save up for a larger down payment.
Types of PMI
While private mortgage insurance plans all generally have the same goals, there are several different PMI structures that may be applied to your loan depending on the circumstances. These include:
Buyer-Paid PMI: By far the most common type of PMI, buyer-paid insurance involves you paying a monthly insurance premium in addition to your normal mortgage payment. The premium is added to your mortgage bill and paid to the insurance provider, though the charge can sometimes be rolled into the mortgage itself.
Lender-Paid PMI: This is oftentimes a rare PMI option where the lender pays the monthly premiums, but as a result, the borrower is charged higher interest rates to make up for the lender's investment.
Single-Premium PMI: This type of private mortgage insurance involves the borrower paying for the entire insurance policy upfront in a single lump sum, often at closing. Once this is paid, there is no monthly premium to worry about.
Split-Premium PMI: This format involves a combination of some of the options above. The buyer pays a lump premium that doesn't make up the entire sum at closing time, so they also pay a monthly premium that gets added to their mortgage bill.
Federal Home Loan Mortgage Protection: This is a specific program that's only available for those choosing an FHA loan program. It's required for down payments of 10% or less, not 20%, and will be lifted after 11 years, or when the buyer refinances their mortgage to a non-FHA loan. In most cases, this form of PMI will be paid using a split-premium arrangement.
Benefits of PMI
When lenders have the proper protections to provide loans, they can offer mortgages to many more families and individuals than if they were constantly at risk of being taken advantage of.
In the same way that car insurance protects you and your lender in case of an accident, private mortgage insurance is just one more way to ensure that things go smoothly for all parties involved in a home loan. It gives more people the opportunity to buy homes, while also making sure that lenders are able to do business without fear of not getting paid.
When PMI Is Required and How to Get Rid of It?
As noted above, the most common PMI requirement is when the borrower is putting down less than 20% of the home loan amount. However, this isn't a hard-and-fast rule. There are cases where loans with lower down payments may not require PMI.
Luckily, in nearly all cases, PMI can be removed at some point on Conventional loans. Generally, once the borrower reaches 22% equity built in the home through things like paying down the mortgage or appreciation of the home's value, PMI can be removed. This is done by request so if you think you may have reached this point, it's important to contact your lender and ask about removal of the insurance. In other situations, PMI will automatically be removed once you reach a certain equity threshold.
For more on private mortgage insurance, or to learn about any of our home loan programs, contact the team at Supreme Lending today.