October 24, 2014 by Leave a comment

You can raise your credit score, save enough cash for closing costs, and maintain accurate financial records. However, if you don’t have at least a 20 percent down payment when buying a house, you’ll have to pay private mortgage insurance.

Private mortgage insurance is required on all mortgage loans with a loan-to-value ratio greater than 80 percent. The annual premium for PMI — which is between 0.5 percent and one percent of the loan — is added to each mortgage payment. Therefore, if you get a mortgage for $100,000, and your mortgage insurance premium is one percent, you’ll pay $1,000 a year for PMI, or about $83 a month.

For the most part, private mortgage insurance is a win-win for both parties. It protects lenders against loss if a borrower defaults on the loan; and PMI puts homeownership within reach for borrowers with less than a 20 percent down payment.

Private mortgage insurance is costly for borrowers — but fortunately, it’s not permanent. Here’s a look at two ways to get rid of private mortgage insurance.

  1. Borrower-requested cancellation

Since PMI is only required by lenders when a homebuyer has less than a 20 percent down payment, you can ask your lender to cancel mortgage insurance once your property has 20 percent equity — but there are no guarantees.

There are several ways to build equity faster. For example, you can submit extra mortgage payments to reduce your principal balance. There’s the option of paying one half of your mortgage payment every two weeks, which is the equivalent of one extra mortgage payment a year. You can also pay a little more each month, and apply the extra payment to the principal only.

Additionally, home improvements can quickly raise your property’s value and eliminate mortgage insurance sooner. Home improvement projects that pay off include kitchen and bathroom remodels, room additions, and exterior improvements.

To request PMI cancellation, you’ll have to submit a request in writing and follow your lender’s guidelines. If your mortgage is current and your home’s value hasn’t declined, the bank may comply with your request. However, your lender will require a home appraisal before eliminating mortgage insurance. Appraisals cost between $300-$400, depending on the size of your home.

  1. Automatic PMI termination

The reality is that some borrowers can’t afford to pay down their mortgages early or spend money on costly home improvements. Don’t overly stress about mortgage insurance if you fall into this category. Be patient, and in a few years, your lender will automatically terminate PMI.

The Homeowner’s Protection Act (HOPA) makes it illegal for lenders to unnecessarily charge borrowers mortgage insurance. As a rule, lenders must automatically remove PMI on the date that your “mortgage balance is scheduled to reach 78 percent of the original value of the home” based on the initial amortization schedule, says Sara Millard, senior vice president and deputy general counsel at United Guaranty Corp.

So, even if your lender rejects your request to cancel mortgage insurance once your property has 20 percent equity, HOPA stops PMI from becoming a permanent or long-term expense.

Bottom Line

Mortgage insurance isn’t cheap, and paying this premium every month will increase your mortgage payment. To avoid PMI, aim for a 20 percent down payment when purchasing a house. It’ll take longer to buy and you’ll have to make sacrifices, but it’s worth the effort. Besides, a 20 percent down payment not only eliminates mortgage insurance, it also helps you qualify for a better mortgage rate.

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