This is what most of us think of when we think about paying private mortgage insurance. We all think it is
Private mortgage insurance is insurance provided at borrower expense on behalf of the lender on mortgages with less than 20% down payment to insure against foreclosure. This shouldn't be confused with home owner's insurance which protects you and the lender against loss due to fire or forces of nature on the physical property itself. In fact, over the past few years with the housing disaster beginning in 2008, some private mortgage insurance companies went bankrupt paying out and some almost went under. The FHA program which has it's own version of mortgage insurance had to raise their premiums considerably in order to remain afloat as FHA with its low down payment requirements was hit extremely hard with foreclosures.
If I conducted a poll today, I can be pretty certain that the results would be that very few people want to pay private mortgage insurance in their house payment. So then the question must be asked - -
who wants to put
No one of course.
But the statistics are that folks that put less than 20% down have a higher default rate than those that don't. Why? Maybe because if you have less money to put down you have less money saved in case of a catastrophic emergency or job loss. Some say that it is because there is less of an investment that people are more likely to walk away from their home that those who have a higher monetary commitment. Maybe a few, but I never took a loan application from anyone that thought they were going to default on their mortgage loan. In any event, unless everyone wants to save 20% to put down on a home, private mortgage insurance will be with us. So let's take a moment to look at it in a different light.
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Change the perspective, if you will.
What we know is that not all of us can afford to put 20% down - - unless we save until we are 80 years old. The way I prefer to look at pmi is that it allows a borrower to put less than 20% down. In essence, the home buyer is paying their 20% over the long term. In the case of a conventional mortgage over about eleven years, if the mortgage is paid as scheduled would be about 78% of the value of the original purchase price.. At 78% the private mortgage insurance drops off automatically. In cases of strong appreciation in an area or if the home owner makes improvements to the property the home may increase in value more quickly. In those cases the home owner can petition the lender to allow the private mortgage insurance to drop off early. In many cases the home can be refinanced to drop the private mortgage insurance.
Let's talk for a minute about a couple of government loans that have their own mortgage insurance structure - - FHA and USDA. Both of these loans charge an upfront fee that rolls into the mortgage. FHA calls it up front mortgage insurance and USDA calls it a funding fee. FHA's is 1.75% of the loan amount and USDA's is 2.0%. So on a $100,000 loan the actual loan amount in each case would be $102,000 for USDA and $101,750 for FHA. Both of these loans also have monthly mortgage insurance. USDA charges a factor of .400% of the mortgage amount which in the $100,000 example would add $33.51 to the monthly payment. FHA's factor is 1.350 which adds $114.42-ouch! And both of those loans require the mortgage insurance for the life of the loan. Double ouch! And putting 20% down on an FHA loan does reduce the amount of mortgage insurance but it doesn't eliminate it - triple ouch. Those who can put 20% down on a USDA loan are not eligible for the loan.
Contrast that to a conventional mortgage in which the private mortgage insurance is factored by credit score, the amount of down payment, and the term of the loan. Typically mortgage insurance wise the conventional mortgage is the better way to go if one qualifies for this type of loan. In addition conventional lending offers another type of loan -one with no mortgage insurance - it is called Lender Paid Mortgage Insurance.
Lender Paid? We all like the sound of that! Makes us smile!
The lender paid option is not without it's cost - as you know - lenders do nothing for free. The lender paid option has a higher interest rate. So let's look at the
numbers.
That same $100,000 mortgage payment would look like this: If we used a traditional mortgage insurance factor base upon a credit score of 720 and 5% down the payment would be:
Interest rate 4.375% = P&I of $508.02 plus PMI of $51.67 = $559.69
Lender Paid mortgage insurance at an interest rate of 4.75%
Payment equals $530.78
Even though the rate is higher (and partially tax deductible I might add) the payment is lower.
I think we can conclude that there are some positives about paying private mortgage insurance, biggest among them the fact that you don't have to spend the best years of your life hoarding pennies to be able to buy a house. While I can't say wholeheartedly that private mortgage insurance is your friend exactly, it does allow you to buy a home without a stash of money.
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