Private mortgage insurance (PMI) is an additional fee that borrowers who don’t have a 20 percent down payment must pay. It insures the lender, not the borrower. The lender’s costs to foreclose and resell the property could be more than the amount the borrower put down, initially, unless the lender has 20 percent up front. Therefore, lenders require insurance in the event that the borrower forecloses.
You must pay PMI unless you have a 20 percent down payment, up front. Why? Because lenders will not lend you more than 80 percent of the property value unless you do.
Some examples and a calculator
Your PMI rate varies depending on how much you are borrowing and what your total down payment is, compared to the sale price. I found a calculator at https://www.hsh.com/calc-pmi.html that adds the PMI payment for you.
PMI for a 95 percent mortgage for a $525,000 house is $241 a month. PMI on a 90 percent mortgage on a $725,000 house is $152 a month.
Is there a way around paying PMI?
Ask your mortgage originator about whether you qualify for a second mortgage simultaneously with your purchase mortgage. A second mortgage for 10 percent, for example, plus 10 percent down that you have, would eliminate PMI on your first mortgage.
This second mortgage might be less expensive to repay than the PMI on a 90 percent mortgage. But, it also may cost you more every month. Every loan is a little different, so you must ask.
When does PMI end?
A. Lenders automatically cancel PMI when your equity is high enough to cover their costs, in the event of foreclosure. You don’t have to pay PMI for 30 years! When you have 22 percent equity, the PMI automatically ends. In the examples I created, if you had a five percent down payment on a $525,000 property, you would pay an extra $241 a month for nine years ($21,890). With a ten percent down payment on a $725,000 house, you would pay PMI ($12,008) over roughly six and a half years.
B. If you own in a rising market, you can shorten your PMI in one of two ways:
- Get an appraisal that shows that the rising market has increased your value enough to prove you owe less than 80 percent of the current value of your property. You can then apply to have your PMI removed.
- Refinance into a new mortgage where rising property value has added enough equity show that you now owe 80 percent, or less, of the current value.
Using the earlier examples, this is how it would work. Once the property is worth more, your debt is a smaller percentage of that higher value. You are also paying down your mortgage, so the figures below are a bit high, since I can’t calculate how many years you’ve been paying this mortgage:
- If you borrowed 95 percent of $525,000 property, you owed $500,000 on closing day. If the property is now worth $625,000, you don’t need PMI because your debt is less than eighty percent of the equity.
- If you borrowed 90 percent of $725,000, you owed $650,000 on closing day. If the property is now worth $810,000, you don’t need PMI because your debt is less than eighty percent of the equity.
Why does PMI exist?
PMI was created to support lenders, so they don’t carry additional risk if they lend to people who do not have 20 percent down. In our current market, down payment is a huge barrier. Starting prices are around $500,000, in our area. That 20 percent is $100,000. Since many people do not have 20 percent down payments, PMI is a good thing. It allows people to get into the real estate market.
Are there other problems with PMI?
Because PMI is insurance, the insurance company will also review your purchase appraisal and condo documents (if you are buying a condo). Sometimes, the PMI company will reject your condo association and deny your mortgage. This is rare in our area.
It is this concern about insurance that encourages agents to advise their sellers to choose buyers with higher down payments. In a tough market like the one we are in now, this is a problem for our clients with less than 20 percent to put down on a house or condo.
When the real estate market is less of a seller-favoring market, we see this problem less frequently.