What's the Average Cost of Mortgage Insurance?
In the past, cost of mortgage insurance involved a down payment of 20% in order to secure a mortgage. The intention was to ensure that the buyer wouldn't default, since doing so would mean losing a substantial amount of money. The theory was that if the buyer defaulted, the lender would be able to recover at least that 20% by selling the home following foreclosure.
Private Mortgage Insurance Cost
Since the late 1950s, PMI has been available to lenders and buyers. When a lender is making a down payment of less than 20%, it's typically required. It is available on conventional loans that aren't backed by HUD (the Department of Housing and Urban Development), the VA (Veterans Administration) and the FHA (Federal Housing Administration). Loans of this type don't require PMI - instead, they apply their own insurance premiums.
How much does mortgage insurance cost?
Historically, Private mortgage insurance cost has been charged as an "up front" burden to the borrower and can represent a significant cost of mortgage Insurance to people who borrow using conventional loans. The higher the LTV (loan-to-value ratio); the more expensive the PMI premiums. As an example, if the borrower has made a down payment of 10%, the LTV is 90%, and the PMI could be .75% of the initial mortgage. A loan with an 85% LTV could charge approximately 80%.
Under the Homeowners Protection Act, the borrower can ask to have PMI cancelled when the principal amount of the loan reaches 80% of the total value of the home. At closing, the lender must inform you of when the 80% ratio is reached (assuming that you make payments on schedule). High-risk borrowers could be charged with private mortgage insurance cost of 50% LTV.
COST OF MORTGAGE INSURANCE: THINGS TO PONDER
If you're considering buying a home, you'll have to save up for a down payment, usually 20%. If you can't, your lender can insist on PMI before agreeing to the loan. This protects the lender if you default. So if you can't afford a big down payment, PMI can be an easy way to get a mortgage. In fact, sometimes it's the only way. The problem is private mortgage insurance cost is high. On a $100,000 mortgage, you could end up paying as much as a thousand dollars annually in PMI. Keep in mind, too, that $100,000 is a pretty low mortgage. If you're like most people, your mortgage is more likely to be in the neighborhood of $230,000.
It's also possible that your PMI may not be tax deductible. If you're a married taxpayer earning under $110,000 per year, it is. If your income exceeds that, it would be better to make a large down payment if it's at all possible, and deduct your mortgage interest come tax time.
If you put down less than 20% as a down payment - the cost of mortgage insurance, you'll have to pay PMI until the equity in your home reaches a total of 20%. This can take a long time, and its money that you're essentially giving away. Just as an example, on a $250,000 home, your PMI is going to amount to over $200 a month. If you actually had that money to invest, say in a mutual fund earning 8% annually compounded, in 10 years you'd have almost $38,000.
PMI can also be hard to cancel - you can't just stop sending payments. You'll have to draft a letter asking that it be cancelled, and you'll also have to have your home appraised before the PMI can be cancelled. This can take a while. Additionally, you should check your PMI contract to make sure that there isn't a clause requiring you to continue the payments even when you've reached the 20% equity threshold.
The Final Word
If you can cancel your PMI, you'll almost always save money. However, if you earn under $110,000 per year, you'll be eligible for tax deductions. If you can attain the 20% equity level within a few years, make a larger down payment.