If your down payment on a home is less than 20 percent, you will have to pay for mortgage insurance.
Mortgage insurance reimburses the lender if you default on your home loan. You, the borrower, pay the premiums. It's often known as private mortgage insurance, or PMI. The Federal Housing Administration, a government agency, sells mortgage insurance, too.
Private mortgage insurance fees vary, depending on the size of the down payment and your credit score, from around 0.3 percent to about 1.5 percent of the original loan amount per year. Some years, PMI premiums are tax-deductible and some years they're not, depending upon the whim of Congress.
How mortgage insurance is calculated
Peyton buys a $200,000 house and makes a 10 percent down payment, borrowing $180,000. Peyton has a 740 credit score.
|Insurance rate: 0.44% per year*||Loan amount: $180,000||Annual premium: $792||Monthly premium: $66|
*Rate varies according to size of down payment, credit score and insurer.
Source: Bankrate.com, Radian mortgage insurance calculator
Most PMI policies require the borrower to pay monthly. Borrowers also have the option of paying for mortgage insurance with a large upfront payment.
PMI can be canceled
Your lender must automatically cancel PMI when your outstanding loan balance drops to 78 percent of the home's original value. This probably will take several years.
You can speed up the cancellation of mortgage insurance by keeping track of your payments. Once the loan balance reaches 80 percent of the home's original value, you may ask the lender to discontinue the mortgage insurance premiums.
To put it another way: You can request cancellation of mortgage insurance when the loan-to-value ratio drops to 80 percent. The lender is required to cancel private mortgage insurance when the loan-to-value ratio drops to 78 percent.
Outstanding mortgage debt as a percentage of the home's current market value.
Formula: Mortgage amount owed / Appraised value
Example: Alex owes $60,000 on the mortgage. The house is worth $100,000.
$60,000 mortgage balance / $100,000 = 60 percent
We're talking PMI, not FHA
Recent FHA-insured loans require payment of mortgage insurance premiums for the life of the loan. The mortgage insurance premiums can't be canceled. Instead, you have to refinance the loan. Read 7 crucial facts about FHA loans.