How To Avoid Paying PMI (Private Mortgage Insurance)
How To Avoid Paying PMI (Private Mortgage Insurance)
What is PMI?
If you’re buying a house and are unable to come up with at least 20% of the purchase price as a down payment, lenders will require that you purchase PMI. PMI stands for Private Mortgage Insurance, and as an insurance policy, it carries a premium that you have to pay, in addition to your regular mortgage payment. It does increase the cost of owning a home, so it’s not to be overlooked or taken lightly.
Why Do Lenders Require PMI?
Lenders require borrowers to purchase PMI as a protection against losses if a borrower defaults on a loan. Low down payments (as little as 3 percent to 5 percent) mean that the borrower has much less at stake than the lender. For example, someone buying a $250,000 house with a 3% down payment “only” has $7,500 at stake, while the lender has $243,000 at stake. On the other hand, if you’re able to come up with a 20% down payment, that means you have at least $50,000 worth of equity in the house. This is not a guarantee that you won’t default, but I think we can agree that it’s easier to walk away from $7,500 than $50,000.
Just like most things in life, it’s not all black nor all white: PMI does have its advantages. While most people would prefer not having to pay it, it does make it easier for the vast majority of people to become homeowners, because you’re not required to wait until you can accumulate a large down payment.
Ways To Avoid Paying Private Mortgage Insurance
Make a large down payment. Of course, if you can manage a down payment that’s 20% or more of the purchase price of your future home, you skip the whole PMI thing altogether. But this is not something that everyone can afford. Some cities have programs which provide low-interest loans to help first-time buyers make a larger down payment, so this is something that can help if you live in such an area.
Make a big payment on your existing mortgage loan. If your payment is large enough to bring your mortgage loan down to 80% or less of your house’s value (which means that your equity in the house is 20% or more), then you can ask your lender to drop your PMI requirement.
Have your house re-appraised. If your home is worth more than it did when you purchased it, you can order a new appraisal. If your equity in the house, as per its new value, is over 20%, you can ask to no longer pay PMI. Keep in mind that bankers are a conservative bunch and will most likely discount the new appraised value to give themselves some margin.
Get an 80/15/5 mortgage. The 80/15/5 mortgage is one where you get an initial mortgage for 80% of the purchase price, a second mortgage for 15% of the purchase price, and you bring a 5% down payment. If effect, it’s pretty much the same as getting a 95% mortgage without the PMI requirement: the 15% second mortgage is added to your 5% down payment and the total is considered as your 20% down payment. This setup can sometimes result in a lower expense than paying for PMI. Just be sure to carefully compare the monthly cost of PMI and one mortgage with the expense of two mortgages. Final word of caution: with some lenders, PMI is paid for in a single large payment when the loan is originated (rather than monthly); with this type, it will be necessary to compare how high the total/overall costs of both options are.
Have the government insure your mortgage. If you meet certain criteria, the Federal Housing Administration or the Department of Veterans Affairs might provide mortgage insurance for free or at a low cost. In the lender’s eye, it’s no different from regular PMI. Generally, people who have served in the military (esp. during a war) or have a low level of income are more likely to qualify for this.
Opt for LPMI (Lender Paid Mortgage Insurance). The basic idea behind LPMI is simple: the lender pays the mortgage insurance premium and charges the borrower a slightly higher interest rate. Lender Paid Mortgage Insurance has its pros and cons so you have to do your research and crunch the numbers to see if LPMI would be a better deal for you that regular PMI.
Here you have six ways to avoid paying PMI. Hopefully you’ll be able to take advantage of at least one of them. In case you can’t, all hope is not lost: you may be able to use the cost of PMI as a tax deduction, thus lowering your tax bill.
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