Private
mortgage insurance (PMI) is a type of insurance policy
that protects lenders from the risk that the buyer will default and push the
mortgage into foreclosure. It also allows buyers who cannot – or choose
not to – make a significant down payment to obtain mortgage financing
at affordable rates. If you purchase a home and put down less than 20%, your
lender will probably minimize its risk by requiring you to buy insurance from a
PMI company before signing the loan.
PMI benefits the lender (the sole beneficiary of PMI), but it can add a sizable chunk to your monthly
house payment: It typically costs about 0.5 to 1% of the loan amount
annually. PMI on a $200,000 loan, for example, could cost up to $2,000 per
year, or $166.67 each month, assuming a 1% PMI rate.
Don’t confuse PMI with mortgage life insurance, which goes to you (or your beneficiaries) to pay off your
mortgage if you die or become disabled.
Because premiums are expensive (and
a PMI policy benefits the lender, not you), it's important to understand when –
and how – you can get rid of your PMI.
Homeowners
Protection Act
The
Homeowners Protection Act of 1998
(the "PMI Cancelation Act") became effective July 29, 1999. The Act
addressed difficulties that homeowners were experiencing in canceling PMI
coverage after they had reached the required equity level, and it established
uniform procedures for canceling and terminating PMI policies. The Act applies
primarily to residential mortgages originated after July 29, 1999 (if your loan
was issued before that date, you will have to contact your lender for further
information).
The Act outlines three situations
where borrower-paid PMI can be eliminated: automatic termination,
borrower-requested cancelation and final termination when the loan reaches its
midpoint.
Automatic
termination
In accordance with the Homeowners
Protection Act, your lender must terminate PMI on the date your loan balance is
scheduled to reach 78% of the original value of your home (in other words, when
your equity reaches 22%), provided you are current on your mortgage
payments. If you are not current on your payments on the date that your
mortgage is scheduled to reach the 78% threshold, the lender must automatically
terminate PMI on the first day of the first month following the date that you
become current. Once PMI has been terminated, the lender can't require further
PMI payments more than 30 days after the termination date or
– if you are behind on payments – the date after termination that you become
current on your payments, whichever is sooner.
It's important to recognize that the
78% threshold is based on the date that the loan is scheduled to reach 78%, according to your amortization schedule, not on your actual payments. That means that if you made
extra payments and reached the 78% threshold ahead of schedule, your lender
does not have to terminate PMI until the originally scheduled date, which could
leave you making months – or even years – of unnecessary PMI payments. To avoid
making excessive payments, you can request cancelation of PMI coverage (see
next section). Also note that FHA mortgage requirements differ from conventional loans, and
depend on when your loan originated and how much money you put down. Check with
your lender to find out how and when you can drop the mortgage insurance
premium (PMI).
Borrower-requested
cancelation.
Under the law, borrowers with a good
payment history can request that PMI be canceled when their equity in the
property reaches 20% of the purchase
price or the appraised value. You have a "good payment history" if you have:
- not made a payment that was 60 days or more past due within the first 12 months of the last two years prior
to the cancelation date (or the date that you request the cancelation,
whichever is later); or
- not made a payment that was 30 days or more past due
within the 12 months prior to the cancelation date (or the date that you
request the cancelation, whichever is later).
By law, lenders are required to
inform you of your right to cancel PMI. Not surprisingly, before the law was
enacted, lenders could (and often did) continue to require monthly PMI payments
long after borrowers had built substantial equity in their homes and the lender
was no longer at risk of loss from the borrower's default. That is now illegal.
To request cancelation, you must:
- Submit a written cancelation request;
- Have a good payment history;
- Be current on your mortgage payments;
- Satisfy lender requirements for evidence that the
property's value has not fallen below the original value (such as an
appraisal); and
- Provide certification that your equity in the property
is not subject to a subordinate
lien (such as a second mortgage).
Once PMI has been canceled, the
lender can't require further PMI payments more than 30 days after the date your
written request was received, or the date that you satisfied the evidence and
certification requirements, whichever is later.
Paying
down your mortgage isn’t the only way to build the
equity that permits you to request a cancelation. Making improvements that add
enough value to your home can also bring you to the required minimum. If you
are doing a big renovation – a significant kitchen remodeling, for example –
review the numbers to see if you now qualify for a written PMI cancelation
request.
Final
termination
If you have not yet reached the 78%
threshold, you may still be able to eliminate PMI payments. Under the law, your
lender must terminate PMI by the first day of the month following the date that
your loan reaches the midpoint of its amortization schedule.
That “midpoint” is halfway through the period between your loan-origination
date and the date when the mortgage is scheduled to be amortized. A 30-year
loan, for example, would reach the midpoint after 15 years.
Again, you must be current on your
payments for final termination to take effect. If you aren’t, PMI will be
terminated when you do become current. Your lender can't require payments for
more than 30 days after PMI is terminated.
One
More Option: Refinancing
Homeowners may have another option
to get rid of PMI: refinancing. If you think your home's value has appreciated, a new loan
may account for less than 80% of the home's value, meaning you will not have to
pay PMI. While this can help homeowners, it's important to do some number
crunching beforehand to make sure that refinancing makes financial sense. In
general, if you can refinance at a favorable, lower-interest rate and get rid of PMI at the
same time, it might be a good move