PMI, or Private Mortgage Insurance, is a form of insurance used by mortgage lenders to reduce the potential risks associated with low down payment mortgages. Most lenders require it to be on a mortgage for over 80% of the value of the property.
Essentially, PMI is designed to allow the bank to claw some of its money back in the event of the buyer defaulting on their loan. PMI won’t cover the entire value of the mortgage – if you default and the home is foreclosed, the sale of the home will cover a portion of the losses sustained by the bank. PMI is designed to pick up the rest.
The cost of PMI
PMI means that lenders are likely to offer more in the way of low down-payment, high ratio loans. This is ideal if you’re looking to buy a home while putting less than 20% down upfront. However, it can also be expensive. Let’s take a $190,000 mortgage at 3.9% as an example – a borrower with a reasonable credit score could expect to fork out nearly $140 per month in PMI. That adds up to $1,680 per year!
How can I get rid of PMI?
Most loans provide the buyer with the ability to get rid of PMI. Since the Homeowner’s Protection Act (1998), buyers have had the right to rid themselves of Private Mortgage Insurance – even those backed by the FHA (Federal Housing Administration). However, removing PMI on an FHA loan can be a little more complex.
There are several ways you can rid yourself of the scourge of PMI – and here’s precisely how:
1) Pay down your mortgage
This is the simplest way to remove PMI. Simply take the original purchase price of your home, multiply it by 80% then pay your mortgage down to this amount. If you’ve borrowed $300,000 on your mortgage, 80% of this would be $240,000. Once you’ve paid off this amount, you can apply for PMI to be removed. You will have to do this in writing, and have a good payment history and no liens (such as a second mortgage) on the home.
2) Pay your mortgage down to the mid-point of the term
Under the legislation, your lender is required to remove PMI after half of your mortgage term has elapsed. For example, if you reach the 15-year point of a 30-year mortgage, PMI must be automatically removed. Again, this will only happen if you are up to date with your payments.
3) Refinance your home
If you refinance your mortgage (for example, to take advantage of a lower interest rate) you may be eligible to have PMI removed. This will work if your new mortgage works out at 80% or less of the current appraisal value of your home. If you haven’t had your home appraised recently, don’t worry – you’ll most likely need an appraisal to refinance your mortgage in the first place.
4) Demonstrate that the value of your home has increased
If the value of your home has increased, you may be able to cancel PMI even if you are yet to reach down payments of 80% or more. You may have to put in the work here to get a valuation. If your home has raised significantly in value, you should contact your lender for the appropriate paperwork to remove PMI.