Private Mortgage Insurance - Explained
What is Private Mortgage Insurance?
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What is Private Mortgage Insurance (PMI)?
Private mortgage insurance (PMI) is a type of mortgage insurance that provides coverage for the lender and not the borrowers. In PMI, mortgage borrowers will have to pay an amount whenever they take mortgage from a lender. This is to protect the mortgage lender peradventure the borrower refuses to complete loan payment.
How is Private Mortgage Insurance Used?
Private insurance companies provide PMI for the benefit of mortgage lenders. In most cases, it is when you have a conventional loan that you will be required to pay PMI, this means as a borrower, you will make an initial payment of less than 20% of the value of your home. Hence, the higher the purchase price of your home, the higher the PMI, though it is still the same less than 20% rate. This is why borrowers often say PMI is costly.
Paying for Purchase Mortgage Insurance
The mode of payment of PMI is often flexible but differ from one lender to another. While some lenders will offer borrowers many payment options, some will offer limited options. The most common way PMI is paid is through monthly premium which is added to mortgage payment. The premium is also displayed on both loan estimate and closing disclosure. Another way to pay PMI is through a one-time up-front premium which is usually paid at the closing of the PMI. However, up-front payment relinquishes your entitlement to a refund after moving or refinancing. Some lenders offer borrowers the choice of using both upfront and monthly premiums at the same time. Before choosing any of the payment options, ensure you consult with your loan officer and calculate the benefits and downsides.
Evaluating PMI in Mortgage Loans
As a mortgage borrower, don't just pick a loan that requires PMI, ensure that you weigh your options before doing so. Although, PMI puts you at the advantage of securing a loan that you might not be able to get ordinarily, PMI is costly. Aside from its cost, it doesn't protect you but the lender. There are certain factors you need to consider when choosing a PMI loan. These factors include the availability of conventional loans without PMI, the nature of the lender, whether PMI or loan interest rates affect your taxes, how long you will stay in a home, general mortgage market conditions, among others. Mortgage borrowers and homeowners sometimes cannot differentiate between mortage insurance and PMI. Before you choose a mortgage package, you need to have a clear understanding of both concepts. Mortgage insurance is paid under an FHA mortgage loan while PMI is usually paid on conventional mortgages. FHA mortgage loans are approved by Federal Housing Administration and this category of loan is designed for borrowers with low or moderate incomes. These borrowers are required to pay Mortgage Insurance Premium (MIP). MIP have lower minimum down payments and credit scores than PMI which is a payment of less than 20 percent of the property purchased. Many homebuyers see PMI as a great way of purchasing a their dream houses due to many disparaging reasons. This paper however highlights six reasons why homebuyers should avoid PMI. The reasons are as follows;
- Cost - PMI is quite expensive, as a mortgage borrower, PMI demands between 0.5% to 1% of the loan as interest. So, the higher the loan, the higher the PMI you will pay.
- Your heirs do not enjoy any dividend from PMI, even after your death.
- As at 2017, PMI was still tax deductible but since then, PMI is no longer deductible.
- PMI payment goes on and on, there is long payment duration.
- It is difficult to reverse or cancel.
Since many homebuyers have good reasons to avoid PMI, how to avoid it becomes the next question. Reasons ranging from cost, non-deductibility, long payment duration among other reasons are why mortgage borrowers need to avoid PMI. This discussion presents ways through which PMI can be avoided. Piggy-back mortgage is one of the ways to avoid PMI, this entails that if a buyer has saved up to 10% of the price of a home, an 80/10/10 agreement can be made between the buyer and the mortgage company. Although, the terms of piggy-back loans are sometimes risky, splitting up the loans will help the buyer deduct the interest and avoid PMI altogether. Option-based pricing model plays an important role in determining how mortgage contracts change and their effects afterwards. This study examines changes in mortgage contract and insurance values using the option-based pricing techniques. In an economic setting, diverse factors can cause changes in mortgage contracts, this study evaluates the role of price-based models in estimating mortgage prices that have impact on the economic environment.
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