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PMI industry fights back against piggyback loans

The mortgage insurance industry wants to get the piggy off its back.

Two-tiered home loans called piggyback mortgages are stealing the bacon from mortgage insurance companies. By one estimate, piggybacks have taken 40 percent of the market share from mortgage insurers, whose product is referred to as private mortgage insurance or PMI. Mortgage insurers are fighting back in multiple ways: by pushing to make the insurance tax-deductible, by developing a new product and by urging home buyers to compare.

Piggybacks and mortgage insurance are two common ways of getting a home loan with a down payment of less than 20 percent. When a buyer borrows more than 80 percent of the home's value, lenders deem that loan riskier. Some lenders cushion themselves from that risk with mortgage insurance, which reimburses the lender for costs associated with foreclosure. The lender is the beneficiary of a mortgage insurance policy, and the borrower pays the premiums.

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A handful of companies offer private mortgage insurance, which usually is paid monthly as part of the regular mortgage payment. The Federal Housing Administration, Veterans Administration and the Rural Housing Service offer government mortgage insurance that involves an upfront payment at the beginning of the loan, plus monthly payments.

A few years ago, lenders began marketing piggyback mortgages aggressively. A piggyback loan works this way: You get two home loans -- a primary mortgage for 80 percent of the purchase price, and a higher-rate secondary mortgage (the piggyback loan) for the rest of the borrowed amount. Piggybacks appeal to homeowners because the combined monthly payments usually add up to less than the monthly payments on a single loan with mortgage insurance.

Comparing piggyback loans and mortgage insurance
There are myriad ways to structure a piggyback loan. One Georgia mortgage broker provides this comparison for a hypothetical home buyer who has good credit and makes a 10 percent down payment on a $250,000 home.
  Mortgage plus additional piggyback loan Mortgage plus private mortgage insurance (PMI)
Amount of primary mortgage $200,000 $225,000
Principal and interest on primary mortgage $1,136 (5.5 percent rate) $1,278 (5.5 percent rate)
Amount of piggyback mortgage $25,000 $0
Principal and interest on piggyback $164 (6.875 percent rate) $0
Mortgage insurance premium $0 $97.50
Total cost per month $1,300 $1,375.50
The cost is initially lower on a piggyback loan, but the private mortage insurance can be canceled once there is sufficient equity. The break-even point between piggybacks and PMI depends on the speed of home value appreciation, the homeowner's tax situation (PMI isn't deductible, interest on piggyback loans is) and any additional costs or fees associated with each product.

Having to pay closing costs for two loans erases some of the advantage of piggybacks, but they still tend to be cheaper in the short run. What about the long run? The answer differs for each homeowner's situation because it depends on the interest rates, the pace of home appreciation and the length of time the borrower plans to own the home. Ask the mortgage lender or broker to give you a side-by-side comparison, possibly with the help of a calculator on the Web site of the Mortgage Insurance Companies of America, the industry's trade group.

"People who live in the home for the long term, generally speaking, are going to be better off with a single mortgage," says Jeff Lubar, spokesman for MICA. "Remember, the mortgage insurance is going to be cancelable at some point."

To succeed in canceling mortgage insurance, your outstanding loan balance has to be 78 percent or less of the home's appraised value. That requires double-digit appreciation if you make a down payment of 10 percent or less -- a pace that might not be realistic over two or three years.

Even if you get mortgage insurance canceled promptly at the two-year mark, it might take five to 10 years to recoup the cumulative cost of the mortgage insurance. That's why a lot of borrowers get piggybacks -- they know they won't own the house that long.

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-- Posted: March 3, 2005
     

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