Pros and Cons of Private Mortgage Insurance
Private mortgage insurance is a cost for many borrowers who do not meet the minimum twenty percent down payment when applying for a mortgage. While it is often misunderstood, private mortgage insurance is not necessarily a cost for buyers to focus on avoiding. Let’s review PMI and all the pros and cons of having it on your mortgage.
What Is Private Mortgage Insurance (PMI)?
PMI or private mortgage insurance provides a level of protection for a lender in case the buyer defaults on their mortgage and the home goes into foreclosure. When borrowers apply for a home loan, lenders typically require a down payment equal to 20% of a property’s purchase price. If a borrower is unable to afford that amount, a lender will typically look at the loan as a riskier investment and require that the borrower take out PMI which is usually paid monthly as part of the overall mortgage payment to the lender. To remove PMI down the road, the borrower must have at least 20 percent equity in the house. The lender can be requested to cancel PMI once the borrower has paid down the mortgage balance to 80 percent of the home’s original appraised value. When the balance drops to 78 percent, the mortgage servicer is required to eliminate PMI.
The Pros of Private Mortgage Insurance
Take Advantage of Rising Home Values: Rising home prices can make it harder for buyers to save up for a 20 percent down payment. With PMI, however, buyers can opt for purchasing a home while also taking advantage of increasing equity growth. If home prices remain strong in the market, buyers can build more than 20 percent equity in their house with the option of canceling their PMI early.
Lock in Low Interest Rates: If you opted to save up until you had at least a 20 percent down payment, it’s entirely possible to experience a rate increase which will result in increased costs over the life of your loan. Taking on your PMI costs will help you save money so you can take advantage of low interest rates!
Consolidate Your High-Interest Debts: PMI also gives home buyers an opportunity to consolidate their high-interest debts. For example, if a borrower has other debts with higher interest rates like student loans, they can make a lower down payment on their mortgage and apply their savings towards their higher interest debt. Borrowers can also reduce their total monthly mortgage payments by putting down a lower down payment and making additional principal payments on your mortgage. With these additional principal payments, the private mortgage insurance could be removed much sooner.
The Cons of Private Mortgage Insurance
Can Be Costly: The average cost of private mortgage insurance ranges anywhere from 0.5 percent to one percent of your total loan amount on an annual basis. So, for a $200,000 mortgage, this translates to an additional $2,000 per year. Unfortunately, PMI does not provide any benefit or protection to the borrower, so getting it removed from your monthly statements sooner rather than later is the best route.
Difficult to Cancel: Private mortgage insurance is not typically removed from your mortgage as soon as you fall below the 80 percent loan-to-value ratio. Instead, most mortgage providers require their customers to submit requests for PMI cancellations via an official letter. Once the request is received, many companies require an official appraisal to be ordered as well. If home values have lowered in your area, your request for PMI cancellation could possibly be denied.
Still on the fence on if you need to take on PMI or if you should go with the twenty percent down payment? Talk to one of our experienced loan officers today to weigh all your options!
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