What is the PMI and Do You Need to Pay It?
If you’re a current or aspiring homeowner, you may have heard of the PMI or private mortgage insurance. What is it? Do you need to pay it? Today we answer some frequently asked questions about PMI.
Just as your homeowners’ insurance covers and protects your home in case of problems, the PMI or private mortgage insurance protects lenders if you default on your loan. Here’s how the Consumer Financial Protection Bureau (CFPB) defines PMI:
“Private mortgage insurance, also called PMI, is a type of mortgage insurance you might be required to pay for if you have a conventional loan. Like other kinds of mortgage insurance, PMI protects the lender—not you—if you stop making payments on your loan.
PMI is arranged by the lender and provided by private insurance companies. PMI is usually required when you have a conventional loan and make a down payment of less than 20 percent of the home’s purchase price. If you’re refinancing with a conventional loan and your equity is less than 20 percent of the value of your home, PMI is also usually required.”
How is the PMI calculated?
Lenders have ways to measure risks when it comes to underwriting. One of those ways is the loan-to-value ratio or LTV, which is calculated by taking the value of the home and dividing it by the amount of the loan. Typically, if the mortgage has an LTV ratio higher than 80%, the borrower will need to pay PMI. This is because they are, in the lender’s eyes, more likely to default. Borrowers can default if they are unable to make timely payments or stop making payments altogether.
How do I pay for the PMI?
There are different ways to pay the PMI. The most common ones are through monthly premiums, up-front premium, or a combination of both.
Monthly Premium
Lenders have the option to include the PMI in your monthly mortgage payments. The PMI is taken into account on your Loan Estimate and Closing Disclosure, prior to agreeing to the mortgage.
Up-Front Premium
Similar to the monthly premium, the PMI is shown in your Loan Estimate and Closing Disclosure.
Up-Front and Monthly Premiums
A combination of both up-front and monthly premiums is also available. With this option, you pay part of the PMI up-front at closing and the balance is included in your monthly mortgage payments. This is sometimes called the split premium.
Another option is the lender-paid premium, where your lender covers the PMI at closing and your mortgage interest rate will slightly increase.
A Note on PMI and MIP
While they sound similar, the PMI and mortgage insurance premiums (MIPs) are not the same. PMIs apply to conventional home loans while the MIP applies to loans insured by the Federal Housing Authority. If you are an FHA borrower, you are required to pay the MIP whether up-front at closing or annually in 12 month installments.
Here to Find The Best Loan for You
At UW Funding, our team helps homeowners past, present and future find the perfect loan for their needs and goals. If you have any questions regarding PMIs, conventional home loans, and other loan programs, please don’t hesitate to contact us.