Paul Sanchez
Mortgage insurance is a type of insurance that protects the lender in the event that the borrower defaults on their payments. It is typically required when the down payment on a home is less than 20% of the purchase price, and it can help borrowers qualify for loans that they may not have otherwise been eligible for. There are several types of mortgage insurance, including private mortgage insurance (PMI), Federal Housing Administration (FHA) insurance, and mortgage protection insurance (MPI). While PMI and FHA insurance protect the lender, MPI is a type of life insurance that ensures the mortgage is paid off if the borrower passes away. In this case, the face amount of the policy decreases over time as the mortgage balance is paid off.
| Characteristics | Values |
|---|---|
| Purpose | To lower the risk to the lender of making a loan to you, so you can qualify for a loan that you might not otherwise be able to get. |
| Applicability | Required if the down payment is less than 20% of the purchase price of the home. |
| Cost | Depends on the loan and down payment size, type of loan (fixed or adjustable-rate), and the borrower's credit score. Typically costs $30 to $70 per month for each $100,000 borrowed. |
| Payment | Included in the total monthly payment made to the lender, the closing costs, or both. |
| Protection | Protects the lender, not the borrower, in the event that the borrower falls behind on their payments. |
| Cancellation | Can be cancelled once the mortgage balance reaches 78-80% of the home's value or halfway through the loan term, whichever comes first. |
| Alternatives | Department of Veterans' Affairs (VA)-backed loans, Federal Housing Administration (FHA) loans, U.S. Department of Agriculture (USDA) loans. |
| Face Amount | Decreases over time as the mortgage balance is paid off. |
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What You'll Learn
Private mortgage insurance (PMI)
The requirement to buy PMI usually also applies to refinancing a conventional loan when the borrower's equity is less than 20% of the home's value. PMI is arranged by the lender and provided by private insurance companies. The amount paid for PMI depends on the loan and down payment size, the type of mortgage (fixed or adjustable-rate), and the borrower's credit score. For example, those with a credit score of 620-639 may pay PMI of up to 1.5% of the loan amount, while those with a score of 760 or higher may pay as little as 0.46%.
PMI can be paid monthly, with little or no initial payment at closing, or with a one-time upfront premium paid at closing. It is included in the total monthly payment made to the lender. Borrowers can request to cancel PMI when their mortgage balance reaches 80% of their home's value. Federal law dictates that lenders must automatically end PMI when the loan-to-value (LTV) ratio drops to 78% or when the borrower is one month past the midpoint of their loan term.
To avoid PMI, borrowers may consider saving up to make a 20% down payment. This not only eliminates the need for PMI but may also result in a lower interest rate. Alternatively, borrowers may opt for a smaller home or look for properties in less desirable areas where housing prices are more affordable.
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Federal Housing Administration (FHA) loans
The Federal Housing Administration (FHA) provides mortgage insurance on single-family, multifamily, manufactured home, and hospital loans made by FHA-approved lenders throughout the United States and its territories. FHA mortgage insurance is required for all FHA loans and costs the same regardless of one's credit score. The only exception is a slight increase in price for down payments of less than five percent. FHA mortgage insurance includes both an upfront cost, paid as part of closing costs, and a monthly cost included in the monthly payment. If a borrower cannot pay the upfront fee out of pocket, they can roll the fee into their mortgage, although this increases the loan amount and overall cost.
FHA loans have been helping people become homeowners since 1934. The FHA, which is part of the US Department of Housing and Urban Development (HUD), insures the loan, allowing lenders to offer borrowers better deals. FHA loans are available to those purchasing their first home, with down payments as low as 3.5% of the purchase price. These loans are available for 1-4 unit properties, as well as for mobile homes and factory-built housing.
FHA loans also offer financial help for seniors over the age of 62 who own their homes or have low loan balances. The FHA Reverse Mortgage allows these individuals to convert a portion of their equity into cash.
Additionally, the FHA offers resources for homebuyers, homeowners, lenders, and researchers. These resources include access to FHA-approved lenders, HUD-approved housing counselling, eligible mortgage insurance premium refunds, and homeowner fact sheets.
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Department of Veterans Affairs (VA)-backed loans
The Department of Veterans Affairs (VA) offers a loan program to help veterans, service members, and their families achieve homeownership. This program is particularly advantageous as it does not require a down payment or private mortgage insurance.
VA-backed loans are available to veterans, service members, and surviving spouses. They are financed by private lenders, such as mortgage companies and banks, but are guaranteed by the VA. This guarantee replaces the need for mortgage insurance, which is typically required by lenders to protect themselves in case the borrower defaults on their payments. Instead of mortgage insurance, VA-backed loans require an upfront "funding fee", which can be rolled into the mortgage. This fee varies based on several factors.
VA loans are designed to make homeownership more accessible and affordable for those who have served. One of their key benefits is the ability to purchase a home without a down payment, which is usually a significant hurdle for homebuyers. This no-down-payment option is available as long as the sales price of the home is not higher than its appraised value. VA loans also offer competitive interest rates, which are often lower than those of conventional loans.
In addition to the no-down-payment option and competitive interest rates, VA-backed loans have other advantages. There are limits on the fees that lenders can charge for originating and processing a VA loan, and sellers can pay all of the buyer's closing costs and up to 4% of the loan amount in concessions. VA loans also have flexible and forgiving credit guidelines, which means that even with a less-than-perfect credit history, veterans and service members may still qualify for a loan.
The VA also offers additional benefits to those who may need adapted housing. The Specially Adapted Housing (SAH) grant and the Special Housing Adaptation (SHA) grant are available to veterans with certain total and permanent disabilities related to their military service. These grants can help veterans purchase, build, or modify a home to suit their needs.
Overall, the VA-backed loan program is a powerful tool that helps veterans, service members, and their families achieve the dream of homeownership. With its lack of mortgage insurance requirements, no-down-payment option, and competitive interest rates, it offers a financially advantageous path to buying a home.
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Mortgage protection insurance (MPI)
MPI is crucial for homeowners who want to ensure their loved ones do not face financial hardships in the event of their death. The insurance payout can help beneficiaries eliminate significant debt and save them money each month. MPI policies are often issued on a “guaranteed acceptance” basis, which can be advantageous for individuals with health conditions who struggle to obtain coverage or pay high rates for life insurance. Additionally, MPI does not require a medical evaluation, making it more accessible than traditional life insurance policies.
However, one potential drawback of MPI is that it is paid directly to the lender, so it won't provide any financial protection to loved ones beyond paying off the mortgage. A traditional life insurance policy may be a better option if the goal is to provide financial protection to beneficiaries, as the policy payout would go directly to them. Additionally, MPI premiums can add a burden to the monthly budget, and the coverage amount decreases over time as the mortgage balance is paid off.
MPI can be purchased from banks, mortgage lenders, private insurance companies, and life insurance providers, who sometimes refer to it as "mortgage life insurance". The cost of MPI depends on various factors, including the insurer and the current balance of the mortgage. It is important to note that MPI is not available in all countries, and regulations may vary depending on the region. For example, in Singapore, OCBC offers Mortgage Protect Advantage, which provides protection for outstanding home loans in the event of death, total and permanent disability, or terminal illness.
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Lender-paid mortgage insurance
LPMI is a good option for those who want to keep their monthly payments affordable. It is important to note that LPMI cannot be cancelled and remains in effect for the life of the loan unless you refinance. This is in contrast to PMI, which can be cancelled once the borrower has at least 20% equity in their home.
When considering LPMI, it is advisable to compare multiple lenders to find the most suitable option. LPMI costs can vary depending on factors such as credit score and down payment amount. It is also worth noting that LPMI may not be the best choice if you plan to stay in the home for a short period, as it may be more expensive than PMI in the long run.
In some cases, borrowers may opt for alternative options to avoid paying for mortgage insurance altogether. For instance, a VA loan, backed by the Department of Veterans' Affairs, does not require a down payment or mortgage insurance, although a funding fee may apply. Similarly, a "piggyback" second mortgage can be used to make a 20% down payment, eliminating the need for mortgage insurance.
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Frequently asked questions
Mortgage insurance is an insurance policy that protects the lender in the event that the borrower defaults on their loan. It is typically required when the borrower makes a down payment of less than 20% of the purchase price of the home.
Mortgage insurance protects the lender, not the borrower. If the borrower falls behind on payments, their credit score may suffer and they could lose their home through foreclosure.
PMI is a type of mortgage insurance that borrowers are typically required to pay when they take out a conventional loan with a down payment of less than 20%.
You can request to cancel PMI when your mortgage balance reaches 80% of your home's value, or 78% according to some lenders. You may need an appraisal to cancel PMI.
MPI is a type of life insurance designed to pay off the remaining balance of a mortgage if the borrower passes away. It is characterized by decreasing coverage amounts over time.
