Paul Sanchez
Mortgage insurance is a monthly premium that is calculated as a percentage of your home loan and protects the lender in the event that you are unable to make payments. It does not go towards the principal, and it does not provide borrowers with any protection. However, it does help homebuyers get affordable, competitive rates and qualify for a loan with a lower down payment. There are several types of mortgage insurance, including private mortgage insurance (PMI), which is for conventional loans, and Federal Housing Administration (FHA) insurance, which is required for all FHA loans.
| Characteristics | Values |
|---|---|
| Who does mortgage insurance protect? | The lender, in the event that the buyer defaults on their loan. |
| Who needs mortgage insurance? | Buyers who can't make a 20% down payment. |
| What is the benefit of mortgage insurance for the buyer? | It helps buyers get a loan with a lower down payment and a competitive interest rate. |
| What are the different types of mortgage insurance? | Private mortgage insurance (PMI), single-premium, lender-paid, split-premium, and federal home loan premium. |
| Can you get rid of mortgage insurance? | Yes, once you've reached 20% equity in your home, you no longer need to pay for mortgage insurance. |
| Does mortgage insurance go towards the principal? | No, it protects the lender in case the buyer defaults on the loan, but the buyer is still responsible for the loan. |
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What You'll Learn
Mortgage insurance lowers the risk for lenders
Mortgage insurance is a type of insurance that lowers the risk for lenders when they offer loans to borrowers who have made a low down payment (usually less than 20% of the purchase price of the home). This insurance is typically required on Federal Housing Administration (FHA) and U.S. Department of Agriculture (USDA) loans.
Mortgage insurance protects the lender in the event that the borrower falls behind on their payments. It does not provide any protection for the borrower, who is still responsible for paying the loan and can lose the home in foreclosure if they fall too far behind.
There are several types of mortgage insurance, including private mortgage insurance (PMI), which is arranged by the lender and provided by private insurance companies. PMI rates vary depending on the down payment amount and credit score, but they are generally cheaper for borrowers with good credit. Most PMI is paid monthly, with little to no initial payment required at closing. Under certain circumstances, PMI can be cancelled, such as when the borrower accumulates 20% equity by paying down their mortgage.
Another type of mortgage insurance is lender-paid mortgage insurance, where the lender shoulders the cost of the PMI. This results in lower monthly payments for the borrower, but the lender may increase the interest rate to cover the cost of the PMI. This type of PMI cannot be removed from the loan, regardless of how much equity the borrower has in their home.
Mortgage insurance can help homebuyers qualify for loans with competitive interest rates and low down payments. However, it increases the overall cost of the loan for the borrower.
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Private mortgage insurance (PMI)
The cost of PMI depends on several factors, including the size of the mortgage loan, the down payment amount, and the borrower's credit score. Generally, PMI will cost less if the borrower has a higher credit score. It is usually paid monthly as part of the borrower's mortgage payment, but it can also be paid as a one-time upfront premium at closing or a combination of upfront and monthly payments. The monthly cost of PMI typically ranges from $30 to $70 per $100,000 borrowed, according to Freddie Mac.
Borrowers can request to cancel PMI when their mortgage balance reaches 80% of their home's value. If the borrower does not make this request, lenders are required to cancel PMI when the balance reaches 78% of the home's value or halfway through the loan term. There may be additional requirements for cancellation, such as a history of timely payments and the absence of a second mortgage.
PMI should not be confused with mortgage protection insurance (MPI), which is a type of life insurance that pays off the mortgage when the borrower dies or becomes unemployed or disabled. It is also different from the mortgage insurance premiums (MIP) that come with Federal Housing Administration (FHA) loans, which are structured differently from PMI on conventional loans.
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FHA loans
The cost of FHA loan mortgage insurance depends on the loan amount, the loan-to-value ratio (LTV), and the mortgage term. The cost of mortgage insurance will be different for each FHA homeowner. The U.S. Department of Housing and Urban Development (HUD) reduced FHA annual mortgage insurance premiums (MIP) for new borrowers in 2023. This reduction is estimated to save new FHA homeowners an average of $876 annually.
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Cancelling mortgage insurance
Mortgage insurance is a way for lenders to take on more risky loans. It protects them in case the borrower defaults on payments. Typically, borrowers making a down payment of less than 20% of the purchase price of the home need to pay for mortgage insurance. Mortgage insurance also is typically required on Federal Housing Administration (FHA) and U.S. Department of Agriculture (USDA) loans.
Private mortgage insurance (PMI) rates vary by down payment amount and credit score but are generally cheaper than FHA rates for borrowers with good credit. Most private mortgage insurance is paid monthly, with little or no initial payment required at closing. Under certain circumstances, you can cancel your PMI. If you get an FHA loan, your mortgage insurance premiums are paid to the FHA and you will pay MIP for either 11 years or the entire length of the loan, depending on the terms of the loan.
- Request PMI cancellation when your mortgage balance reaches 80%.
- Pay down your mortgage earlier.
- Refinance your mortgage.
- Reappraise your home.
- Wait until your lender or servicer cancels PMI automatically. This happens when your mortgage balance hits 78% of the home's purchase price, or the month after the halfway point of your loan's term, whichever comes first.
- If you have a conventional mortgage with borrower-paid monthly premiums, you can get rid of PMI after you accumulate 20% equity by paying down your mortgage.
- If your home's value goes up enough to give you 25% equity, and you've paid PMI for at least two years, you can request cancellation.
- If your home's value goes up enough to give you 20% equity, and you've already paid premiums for five years, you can request cancellation.
- Put extra payments toward your loan principal to reach 20% equity faster than you would with regular monthly payments.
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Alternative options
Mortgage insurance is not the only option for homebuyers. Here are some alternative options:
Piggyback Second Mortgage
Some lenders may offer a "piggyback" second mortgage as an alternative to mortgage insurance. This option may be marketed as cheaper, but it is important to compare the total cost before making a decision. A piggyback loan can help you avoid paying mortgage insurance by covering the 20% down payment required to qualify for a loan without mortgage insurance.
Conventional Loan with a Higher Down Payment
If you can make a down payment of 20% or more, you may not need to pay for mortgage insurance. This option may be challenging for some homebuyers, as it requires a larger upfront payment. However, it can save you money in the long run by eliminating the need for mortgage insurance.
Federal Housing Administration (FHA) Loan
An FHA loan is a type of mortgage insured by the Federal Housing Administration. While FHA loans typically require mortgage insurance, they can be a good option for homebuyers with lower credit scores or smaller down payments. FHA loans have more flexible requirements than conventional loans, but it's important to note that the mortgage insurance may be more challenging to remove compared to private mortgage insurance (PMI).
Department of Veterans Affairs (VA)-Backed Loan
If you are a servicemember, veteran, or their family member, you may be eligible for a VA-backed loan. With this type of loan, the VA guarantee replaces mortgage insurance, and there is no monthly mortgage insurance premium. However, you will need to pay an upfront "funding fee," and rolling this fee into your mortgage will increase your overall costs.
Private Mortgage Insurance (PMI) with a Private Lender
If you opt for a conventional loan, you may be able to arrange for PMI with a private company. PMI rates can vary based on your down payment amount and credit score, and they are generally cheaper for borrowers with good credit. PMI can often be removed once you have reached 20% equity in your home or paid down your loan balance sufficiently.
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Frequently asked questions
Mortgage insurance is a type of insurance that protects the lender in the event that the buyer defaults on their loan. It helps homebuyers qualify for a loan with a lower down payment and get affordable, competitive rates.
Mortgage insurance is calculated as a percentage of your home loan. The lower your credit score and the smaller your down payment, the higher the lender’s risk, and the more expensive your insurance premiums will be. Mortgage insurance is typically paid monthly, with little or no initial payment required at closing.
Mortgage insurance can be removed in several ways. One way is to put 20% down on a conventional mortgage, which eliminates the need for mortgage insurance. Another way is to choose a single premium PMI, which allows you to make a single payment to remove the PMI. You can also request the removal of PMI once your mortgage balance reaches 80% of the value of your home.
No, mortgage insurance does not go towards the principal. It is a separate cost that protects the lender in case the buyer defaults on their loan. The buyer is still responsible for paying the principal and interest on the loan, in addition to the mortgage insurance premiums.
