What is mortgage insurance?
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In most cases, the process of buying a home involves taking out a mortgage and making a down payment. However, if your down payment is less than 20 percent of your home’s purchase price or you’re taking out a particular mortgage (such as an FHA loan), you might also need to buy mortgage insurance. For lenders, these are higher-risk lending situations, so they require mortgage insurance to protect their interests.
What is mortgage insurance and what does it cover?
Mortgage insurance is an insurance policy that protects the mortgage lender and is paid for by the borrower of the loan.With mortgage insurance, the lender or titleholder is covered in case you are unable to pay back the mortgage for any reason. This can include defaulting on payments, failing to meet contractual obligations, passing away or any other number of situations that prevent the mortgage from being completely repaid.
How mortgage insurance works
In general, you’ll need to pay for mortgage insurance if you put down less than 20 percent on a home purchase. This is because you have less invested in the home upfront, so the lender has taken on more risk giving you a mortgage. How much you’ll pay depends on the type of loan you have and other factors.
Even with mortgage insurance, you’re still responsible for the loan, and if you fall behind on or stop making payments, you could lose your home to foreclosure.
How much does mortgage insurance cost?
The higher your down payment, the lower your mortgage insurance premium will be.
With private mortgage insurance (PMI) on a conventional loan, you can expect to pay 0.58 percent to 1.86 percent of the original amount of your loan. That equates to $58 to $186 per month for every $100,000 borrowed.
If you have an FHA loan, your upfront premium is 1.75 percent of your loan amount, while your annual premium ranges between 0.45 percent and 1.05 percent. For a $350,000 loan, your upfront MIP premium would be $6,125, and your annual premium would fall between $1,575 and $3,675 (paid monthly with your mortgage).
USDA loans come with a 1 percent upfront guarantee fee, as well as an annual fee that’s equal to 0.35 percent of your loan amount. Using the $350,000 loan example, that would come out to $3,500 upfront and $1,225 annually.
For VA loans, the funding fee will range from 1.25 percent to 3.3 percent, depending on the amount of your down payment and whether or not you’ve taken out a VA loan before. That comes out to $4,375 to $11,550 for a $350,000 loan.
How is mortgage insurance calculated?
Mortgage insurance is calculated based on loan amount, loan-to-value (LTV) ratio (in other words, your down payment amount) and other variables. The higher your down payment, the lower your mortgage insurance premium will be.
Types of mortgage insurance and other fees
The type of mortgage insurance you’ll need depends on several factors, including the kind of loan you have. Since mortgage insurance protects the lender, your lender chooses the insurer that provides the policy. Here are the various types of mortgage insurance:
Private mortgage insurance (PMI)
PMI, or private mortgage insurance, is typically required if you’re obtaining a conventional loan with less than 20 percent down. This can include a 3 percent or 5 percent conventional loan or other type of low-down payment mortgage. Most borrowers pay PMI with their monthly mortgage payment. The cost varies based on your credit score and loan-to-value (LTV) ratio.
FHA mortgage insurance premium
MIP is the mortgage insurance premium required for an FHA loan with less than 20 percent down. You’ll pay for this mortgage insurance upfront at closing, and also annually. The upfront MIP equals 1.75 percent of your mortgage, while the annual MIP ranges from 0.45 percent to 1.05 percent of your mortgage based on the amount you borrowed, LTV ratio and the length of the loan term (30 years or 15 years).
USDA guarantee fee
The USDA guarantee fee is one of the costs you’ll pay to obtain a USDA loan, which is only available to borrowers in designated rural areas and has no down payment requirement. The guarantee fee is paid upfront and annually, with the upfront fee equal to 1 percent of the loan and the annual fee equal to 0.35 percent.
VA funding fee
VA loans also have no down payment requirement, but are available exclusively to service members, veterans and surviving spouses. While there is no mortgage insurance required for these loans, there is a funding fee that ranges from 1.25 percent to 3.3 percent of the loan, depending on whether you’re making a down payment (and the size of it, if so) and if this is your first time obtaining a VA loan. This funding fee doesn’t have to be paid, in some circumstances.
Benefits of mortgage insurance
While mortgage insurance primarily benefits the lender, it does serve a purpose for the borrower because it allows you to get a mortgage with limited down payment savings. Putting down 20 percent can be challenging, especially with home values on the rise. By paying for mortgage insurance, you can still get a loan without needing a large down payment (assuming you qualify based on other eligibility parameters).
Drawbacks of mortgage insurance
The downside of mortgage insurance: It’s an extra expense you wouldn’t otherwise have to pay, and that it can be difficult to get out of if you have an FHA loan.
Mortgage insurance FAQ
If you have a conventional or FHA loan and you’re putting less than 20 percent of the home’s price down, you’ll be required to pay mortgage insurance. If you have a VA or USDA loan, you’ll also pay fees (though there are exceptions for some VA loan borrowers).
You can get rid of mortgage insurance in a number of ways, including paying down your loan, refinancing or requesting cancellation when you reach 20 percent equity in your home. Keep in mind: If you have an FHA loan and you put less than 10 percent, you can’t get rid of the insurance unless you refinance to a different type of loan.