PMI - Private Mortgage Insurance

Many first-time homebuyers grumble about paying private mortgage insurance (PMI). This article discusses the particulars of PMI and its impact on homeownership.

Private Mortgage Insurance

Unless they are exceedingly risk-tolerant, every business in the United States carries some form of insurance to protect against losses. Lending institutions that issue home loans, equity lines, and refinances to borrowers are no different. The insurance they carry is private mortgage insurance.

Private mortgage insurance protects a lending institution from losses if you default on your loan and your home goes into foreclosure. Essentially, PMI covers the lender for any shortages between the cost of liquidating the home and the amount of the loan. This protection is particularly crucial to lenders during housing market downturns, when it is not uncommon for the total mortgage balance to exceed the home's value, making lenders understandably uncomfortable.

PMI Premiums

Most homeowners can understand the need for private mortgage insurance. The grumbling starts, however, when they find out who has to pay for this insurance. Unfortunately, the homeowner is responsible for the premiums. As the homeowner, you are paying for insurance that protects the lender if you default. While this may seem unfair, keep in mind that the lender is providing you with a substantial loan amount. If you find this frustrating, there is a way to avoid paying PMI.

20 Percent Down

When you take out a home loan, the 20 percent figure becomes significant. Why? Because a 20 percent down payment eliminates the requirement to obtain or pay for private mortgage insurance. With PMI premiums often running $1,000 or more annually, it makes financial sense to aim for a 20 percent down payment if at all possible.

What if you can't manage a 20 percent down payment? In that case, you will need to pay PMI, but not indefinitely. Once your equity in the home reaches 20 percent of the home's value, you can cancel the PMI. It is crucial to monitor your equity, as lending institutions are not obligated to notify you when you reach the 20 percent threshold. Interestingly, they rarely remember to inform you.

Conclusion

Private mortgage insurance is costly, but you can avoid it with a substantial down payment. If you cannot come up with that amount, try to focus on the beautiful home and investment the loan has enabled you to acquire.