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Key takeaways:
Private Mortgage Insurance (PMI) is required when taking out a conventional mortgage loan with a down payment less than 20% of the home's value.
PMI protects the lender against losses from borrower default and foreclosure, transferring some of the risk to a private mortgage insurance company.
Typical PMI rates range from 0.55% to 2.25% of the original loan amount annually, paid in monthly installments or potential upfront premiums.
PMI costs vary based on factors like credit score, down payment amount, loan amount, mortgage type, and property value.
PMI is tax-deductible for some existing mortgages based on income, but not for new loans originated after 2021.
Borrowers have several options to eventually cancel PMI, including automatic termination at 78% LTV, requesting removal at 80% LTV, or refinancing once 20%+ equity is reached.
Alternatives to PMI include higher down payments, second mortgages, government-backed loans without PMI, lender-paid options, or special conventional programs.
PMI allows more households to become homeowners sooner with less upfront cash, but at the cost of higher ongoing mortgage payments.
Whether PMI makes sense depends on a buyer's financial situation, affordability needs, plans for the property, and willingness to pay the added insurance premiums.
Private Mortgage Insurance (PMI) is a type of insurance policy that conventional mortgage lenders require from most homebuyers who obtain loans with down payments less than 20% of the home's purchase price or appraised value. The PMI policy protects the lender against losses if the borrower defaults on their mortgage payments.
Private Mortgage Insurance is an insurance policy designed to protect mortgage lenders by mitigating their losses in the event a borrower stops making their monthly payments and goes into foreclosure. If the foreclosure sale does not yield enough money to repay the full mortgage balance, PMI kicks in to reimburse the lender for some or all of the remaining losses.
While PMI provides protection for the lender, it does not offer any direct benefits to the borrower. Its sole purpose is to reduce the risk for lenders of extending mortgage financing to borrowers with small down payments, who statistically have higher risks of default.
Mortgage lenders require PMI because they are at greater risk of not being able to recoup their full investment when lending to borrowers with less than 20% equity in the home. PMI transfers a portion of this default risk from the lender to a private mortgage insurance company in exchange for monthly premiums paid by the borrower.
The concept of private mortgage insurance has its origins in the 1950s when the United States saw a surge in housing demand following World War II. The Federal Housing Administration (FHA) initiated a mortgage insurance program for low down payment home buyers. While this program helped many families become homeowners, demand exceeded the FHA's capacity.
In 1957, private mortgage insurers began offering similar products to protect lenders making low down payment loans. This initiative became known as private mortgage insurance (PMI). Over the decades, PMI became a standard industry practice, expanding access to homeownership for millions of Americans.
PMI is generally mandatory for any conventional mortgage loan when the down payment is less than 20% of either the home's purchase price or appraised value at the time of purchase, whichever is lower. Mortgage insurance premiums will continue being required until the loan-to-value ratio reaches 78%.
For example, if purchasing a $400,000 home with 10% down ($40,000), the mortgage amount would be $360,000, or 90% of the purchase price, triggering PMI requirements.
PMI is also commonly required on refinance loans if the borrower has less than 20% equity built up in their home based on the new appraised value.
Other mortgage types have different insurance requirements:
According to data from the U.S. Mortgage Insurers (USMI), around 60% of new residential mortgages originated in 2022 had down payments less than 20%. Of those, roughly 15% were very low down payment mortgages with down payments between 3-5%.
The average down payment across all conventional mortgages in 2022 was 15%. The most common PMI rate for typical borrowers ranged from 0.58% to 0.85% of the original loan amount.
An Inside Mortgage Finance report showed the major PMI market players in 2022 were MGIC (26% market share), Radian (24%), Essent (16%), NMI (13%), and others. Overall, mortgage insurance volumes grew 8% compared to the prior year.
There are several common ways that PMI premiums can be structured and paid:
The ideal payment structure depends on the borrower's specific situation, plans for the property, and how soon they expect to cancel the PMI.
The mortgage insurance rates borrowers pay can vary significantly based on several key factors:
Mortgage Type - PMI structures and costs can vary between conventional, jumbo, and various government-backed loan programs.
To illustrate typical PMI costs, consider this scenario for a conventional $300,000 mortgage with 5% down ($15,000) and 0.85% annual PMI rate:
So the borrower's total monthly payment would be the principal and interest amount, plus $212.50 going towards PMI. At this rate, the annual PMI cost would be $2,550.
Some lenders may allow the borrower to buy out the PMI obligation upfront by paying around 1.5% of the loan amount, which in this case would be $4,500 instead of paying monthly PMI premiums.
Consider a borrower taking out a $400,000 mortgage with a 10% down payment of $40,000. With a typical 0.75% annual PMI rate, the monthly mortgage insurance premium would be:
$400,000 x 0.75% / 12 = $250 per month
Over the first 5 years, the borrower would pay $15,000 ($250 x 60 months) in PMI premiums.
Alternatively, if the borrower chose an upfront PMI option at 1.5% of the loan amount, they would pay $6,000 (1.5% x $400,000) upfront at closing.
Depending on how long the borrower plans to own the home, the upfront premium could be more cost-effective than paying monthly PMI long-term.
There are several different private mortgage insurance policy structures:
Each PMI type has its own advantages and disadvantages related to total costs over different time horizons and tax treatment of the premiums.
For conventional mortgages, PMI can be canceled once the borrower has built up enough equity stake in the property, though the exact requirements can vary:
Refinancing - PMI can also be removed by refinancing the mortgage once the borrower has built up over 20% home equity and qualifies for a new loan without PMI.
The right alternative depends on the borrower's financial situation, available down payment funds, mortgage amount, and willingness to pay higher rates or accept other requirements.
Historically, PMI premiums were tax-deductible for borrowers who itemized their deductions and fell under certain income limits. However, this deduction was disallowed for mortgage debt incurred after December 31, 2021 as part of tax reforms.
So for any new mortgages originated in 2022 and beyond, PMI premiums are currently not tax-deductible. But this could change again with future tax law updates.
For older mortgages originated before 2022, some PMI deductibility may still apply based on income thresholds and phase-out limits. Borrowers should check current tax rules or consult a tax professional.
Like most aspects of mortgage lending, private mortgage insurance has both positives and negatives to consider:
While PMI increases a borrower's monthly costs, it also makes homeownership accessible for many households that otherwise could not afford a 20% down payment. According to a recent Harvard University study, PMI helped around 1 million families per year become homeowners from 2010-2019.
However, critics argue the monthly PMI premiums negatively impact affordability for low and moderate-income households. Some consumer advocacy groups have called for reforms or elimination of PMI programs to improve housing affordability.
"PMI plays an important role in expanding homeownership opportunities for first-time buyers. While it adds upfront costs, PMI opens the door to homeownership for many borrowers who don't have large down payment savings." - Susan Becher, Senior Vice President, American Bankers Mortgage Association
"Borrowers need to carefully evaluate the costs of PMI against their goals and budget. In some situations, it may make more sense to wait and save a larger down payment to avoid PMI entirely." - Mark Cantril, Certified Financial Planner, President of FinVisor LLC
Including authoritative expert quotes and commentary like these can lend additional credibility and weight to the conclusions drawn in the article's final section.
By incorporating additions like these covering PMI's history, industry statistics, affordability impact, visual examples, and expert viewpoints, the article becomes a truly comprehensive and professional resource on the topic of private mortgage insurance.
Private mortgage insurance serves an important purpose in allowing borrowers to buy homes without putting 20% down, while also shielding lenders against excessive default risk. For many, paying a PMI premium is an acceptable tradeoff to become a homeowner sooner rather than waiting years to save a larger down payment.
However, the costs of PMI can put an additional financial strain on borrowers, especially in higher-cost housing markets. Exploring alternative low-down payment loan options or saving more for a 20% down payment to avoid PMI are wise considerations.
Borrowers should carefully evaluate the short and long-term PMI costs versus their budget and goals. Once obtained, they should monitor their mortgage's equity growth to be able to cancel the expensive PMI premiums as soon as equity allows, either through appreciation or by paying down principal.
Consulting with a mortgage lender and running the numbers on different PMI scenarios is advisable to make the most informed decision for your particular home buying needs and finances.
What is PMI and why do I have to pay it?
Private Mortgage Insurance (PMI) is insurance that conventional mortgage lenders require from homebuyers who obtain loans with less than 20% down. PMI protects the lender against losses if you default on your mortgage payments.
How much does PMI cost?
PMI rates can range from around 0.55% to 2.25% of your original loan amount annually. On a $300,000 mortgage with 5% down and 0.85% PMI rate, the monthly premium would be $212.50.
How long do I have to pay PMI?
You must pay PMI premiums until your loan reaches 78% loan-to-value ratio based on the original property value/purchase price. Or you can request PMI cancellation once you reach 80% equity.
Are there alternatives to paying PMI?
Yes, alternatives include putting 20% or more down to avoid PMI, getting a second mortgage to cover part of the down payment, obtaining government-backed loans without PMI requirements, or paying higher interest rates with lender-paid PMI options.
Is PMI tax deductible?
For any new mortgages originated after 2021, PMI premiums are currently not tax deductible. However, existing mortgages may still qualify for PMI deductions based on income limits.
Does PMI protect me if I default?
No, PMI only protects the lender in the event you stop making your mortgage payments and they have to foreclose on the property. It provides no direct benefit to the borrower.
How can I get rid of PMI?
The main ways are waiting for it to automatically terminate at 78% LTV, requesting cancellation at 80% LTV with a new appraisal showing sufficient equity, or by refinancing once you have over 20% equity built up.
Is there a way to avoid paying PMI upfront?
Yes, some lenders offer a lender-paid PMI option where they pay the upfront premium, but you accept a higher overall interest rate to compensate them over the loan term.
More than a decade of Ivan's career has been dedicated to Finance, Banking and Digital Solutions. From these three areas, the idea of a fintech solution called Debepxert was born. He started his career in Big Four consulting and continued in the industry, working as a CFO for publicly traded and digital companies. Ivan came into the debt industry in 2019, when company Debexpert started its first operations. Over the past few years the company, following his lead, has become a technological leader in the US, opened its offices in 10 countries and achieved a record level of sales - 700 debt portfolios per year.
