Buying your first home is one of the most exciting purchases you may ever make. But, depending on the size of your down payment and the type of loan you get, you may have to pay private mortgage insurance (PMI).
PMI is charged on conventional loans when a borrower puts less than 20% down to buy a home.
According to the National Association of REALTORS®, in 2020, the average down payment for home buyers was 12%, which means a lot of buyers had to pay this extra expense. Even though the buyer pays this monthly fee, PMI protects your lender – not you – if you can’t pay the loan back.
Learning the ins and outs of PMI – including how to get rid of it early – can save you money!
What’s Private Mortgage Insurance?
PMI is monthly insurance required by most lenders when a buyer with a conventional mortgage makes a down payment that’s less than 20% of the home’s sale price.
Annually, PMI usually costs 0.5% – 1% of your mortgage, which is divided up and added to your monthly mortgage payments.
So, let’s say you have a mortgage of $300,000 with a PMI of 0.75%. PMI will add an extra $2,250 to your mortgage every year. Put another way, that’s an additional $187.50 tacked onto your mortgage each month.
If you can already think of a few things you could do with an extra $187.50 every month, it’s clear that PMI is something you should try and get rid of as soon as you can.
If you suspect or know that you’re going to have to pay PMI, how much you pay will depend on a lot more than the kind of loan you have and the size of your down payment. Lenders will take your credit score and debt-to-income (DTI) ratio into consideration, as well as the type of property you’re buying and its value, before deciding how much your PMI will cost.
Exceptions for PMI
Although most lenders and mortgage servicers require PMI if a down payment is less than 20%, there are some exceptions to the rule.
Some lenders won’t charge PMI on a loan with a down payment that’s less than 20%. Instead, they’ll charge the borrower a higher interest rate.
If you qualify for a Department of Veterans Affairs (VA) loan, you can avoid PMI completely. VA loans, which are backed by the government, don’t require PMI – ever. You won’t get charged PMI with government-backed Federal Housing Administration (FHA) loans either, but these loans do require a different kind of mortgage insurance called a mortgage insurance premium (MIP).
Types of PMI
There are two main types of PMI: borrower-paid mortgage insurance (BPMI) and lender-paid mortgage insurance (LPMI).
- BPMI is the most common type of PMI. You pay BPMI as a fee on top of your monthly mortgage payment. Ordinarily, once you’ve built up at least 22% equity in your home, your lender will automatically stop charging BPMI. If that doesn’t happen, it may be because you missed payments and/or your mortgage isn’t in good standing.
- Technically, your lender pays LPMI. So, instead of paying an added fee on your monthly mortgage payment, you pay a slightly higher interest rate on the loan. With LPMI, you don’t stop (or request to stop) paying it once you’ve reached 20% equity in your home because it’s part of the interest rate, and not a separate fee. On the upside, you might end up with a lower monthly mortgage payment despite the higher interest rate.
What’s Home Equity?
Home equity is your home’s value minus what you owe on your mortgage, which is referred to as the principal debt or principal. It’s how much of the home you’ve paid off.
When you pay your mortgage, the part of your payment that pays down on the loan’s principal increases your equity. (FYI: What you pay in interest doesn’t lower the loan’s principal or increase equity.)
Let’s say you’ve got a $300,000 mortgage. Once you pay back $60,000 in principal, you’ll have 20% equity in your home.
Your equity can also increase if your home’s value goes up.
Let’s say you’ve been living in your home for 2 years, you’ve paid down $40,000 of your mortgage principal and, during the same time, your home value jumped from $300,000 to $325,000. When you do the math again, your home equity is $325,000 minus what you owe on your $300,000 mortgage (which is $260,000). So now you have $65,000 (or 20%) in home equity.
To find out how much equity you have and how close you are to the 20% mark, call your mortgage lender to discuss your most recent mortgage statement. Many lenders have an online portal with your statements available as well.
Can You Get Rid of Mortgage Insurance on an FHA Loan?
Just a quick reminder that FHA mortgage loans are not conventional mortgages. FHA loans are backed by the government and come with different rules.
You don’t have to pay PMI with an FHA loan, but you do have to pay something similar: MIP (aka mortgage insurance premium).
FHA loans require mortgage insurance. Period. It doesn’t matter how large or small your down payment is. The cost of MIP can range between 0.45% – 1.05%. The percentage you pay will depend on the total amount of your loan, the loan’s repayment length and your loan-to-value (LTV) ratio.
Now, this hard and fixed MIP rule does come with an exception. You can cancel MIP fees on FHA loans taken out after June 4, 2013 – depending on the size of your down payment. If you put less than 10% down, you’ll pay FHA MIP every month until the mortgage is paid off. If you put down 10% or more, your MIP payments will end after 11 years.
How Long Do I Have To Carry PMI?
There are two points in time when PMI payments can stop. The first is when you make a written request to your lender to waive PMI because you’ve built up 20% equity in your home. The second is when it ends because you reached 22% equity in your home.
But home equity milestones aren’t the only factors that matter when it comes to canceling PMI, you also need to meet certain criteria:
- Your mortgage is in good standing (no missed payments)
- The home’s property value is the same or higher than when you bought it
What Are the 3 Ways To Get Rid of PMI?
No matter what type of PMI you have, there are ways to get rid of it – and get rid of it early. It might take some effort, but it’s well worth the thousands of dollars you’d save in the long run.
1. 20% equity + 80% mortgage balance = 100% PMI cancellation
Use your mortgage statements to monitor your payments and see when you’ve reached 20% equity or your mortgage balance reaches 80% of your home’s original value (aka LTV).
PMI gets canceled after you’ve reached 22% equity, but why not try and get rid of it at 20%? Avoiding the monthly fees on that extra 2% could save you a lot of money.
When you’re approaching 20% equity:
- Contact your lender and learn what steps you’ll need to take to be released from your PMI payments. Ask your lender for a copy of your amortization schedule and find out what else they’ll need to move on the cancellation.
- When your loan balance reaches 80% of the home’s original value, write and send a PMI cancellation request to your lender. You’ll make a stronger case for cancellation with a good payment history, and you’ll want to make sure there are no liens on the property. You may also need to get the home reappraised to confirm its value.
- Check your mortgage payment schedule for the details of your PMI payments, including how much you pay and when your payments are scheduled to end. Circle the date you’re expected to hit 20% equity on a calendar or set an alarm. And, if you’re feeling impatient and you’ve got money to spare, you can always speed up your climb to 20% equity by making extra mortgage payments.
2. Reappraise if your home has gone up in value
If the homes in your surrounding neighborhood are selling at higher prices, consider getting your home appraised by a professional. Your home may have gone up in value because of a spike in the local housing market, new developments in your neighborhood or because of home improvements you’ve made.
You can use a reappraisal to get rid of PMI payments if you meet one of two qualifying factors:
- You’ve owned the home for at least 5 years, and your outstanding mortgage balance is no more than 80% of the new valuation.
- You’ve owned the home for at least 2 years, and your mortgage balance is no greater than 75% of the reappraised value.
If you meet either of these criteria, write to your lender and request PMI cancellation. Make sure to include your appraisal paperwork and any other information your lender requires.
LPMI and MIP Cancellation
If you pay MIP on an FHA loan or LPMI on a conventional mortgage, the only way you can cancel the monthly fees is by refinancing after you’ve reached 20% equity.
Here’s how it’s done in five steps:
- Find, compare and pick the right lender: Each lender has specific loan approval requirements. Look at lenders whose refinancing standards you qualify for and compare their interest rates and fees.
- Apply for a refinance: After choosing a lender, the next step is to apply for refinancing with a conventional loan.
- Pass the underwriting and appraisals tests: Refinancing is like getting a mortgage, so you’ll need to go through underwriting again, with the lender verifying your income, assets, debts and property details. You’ll also need to get an appraisal that confirms the value of your home.
- Acknowledge and accept your Closing Disclosure terms: Once you’re approved, you’ll need to sign off on your Closing Disclosure documents.
- Attend closing: Everyone involved with the loan should attend the closing. You’ll read through the loan’s details, sign documents and pay any closing costs. (FYI: You can opt to make your closing virtual or remote for your convenience.)
Compare the costs of refinancing with what you’d save (or lose) once your MIP or LPMI is canceled. In some instances, especially with government-backed loans, you might lose out on some benefits when you restructure with another lender or to a different product.
Now That You Know How To Get Rid of PMI Early … Take Action
Getting rid of PMI early can save you money every month and over the life of the loan. It’s worth learning how it’s done, so you can start working on it and saving as soon as possible.
National Association of REALTORS®. “2021 Home Buyers and Sellers Generational Trends Report.” Retrieved October 2021 from https://www.nar.realtor/sites/default/files/documents/2021-home-buyers-and-sellers-generational-trends-03-16-2021.pdf
U.S. Department of Housing and Urban Development. “APPENDIX 1.0 – MORTGAGE INSURANCE PREMIUMS.” Retrieved October 2021 from https://www.hud.gov/sites/documents/15-01MLATCH.PDF