Mortgage Insurance
Sometimes a new homebuyer cannot afford a 20% down payment on a new home. There are several mortgage programs that offer down payment assistance to help the homebuyer. When a borrower puts less than 20% down for the purchase of a home, the lender will need to cover the rest of the home’s purchase price. In trade for assuming the risk of covering a larger part of the loan, the lender will often add mortgage insurance to the monthly payments. The mortgage insurance is a policy that the lender takes out to insure themselves against the risk of a borrower defaulting on the loan.
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The Price of Mortgage Insurance
Mortgage insurance is always paid by the borrower. With a conventional loan, you will typically pay private mortgage insurance (PMI). The PMI is usually between one and two percent of the principal payment of the loan and is split into monthly payments. For example, let’s say you put less than 20% down on a new home and you borrow $200,000 from the lender. Your annual PMI is 1% of the principal, which is $2,000. If you break that down into monthly payments, your PMI is about $166 a month.
With an FHA loan, you will have two different types of insurance. First, you will be required to pay the upfront MIP (mortgage insurance premium), which is usually about 1.75% of the loan amount. This is sometimes rolled into the cost of the loan. You will also have to pay an annual premium that is divided into monthly payments. The monthly mortgage insurance on an FHA loan is a bit lower than the PMI on a conventional loan (0.5% to 1%).
How to Remove Mortgage Insurance
A lender will typically require mortgage insurance on a loan in which the borrower has less than 20% equity. With an FHA loan, the mortgage insurance is attached for the life of the loan. In this case, the only way to remove the mortgage insurance is to refinance with a non-FHA loan. Most conventional loans are a bit more flexible and the mortgage insurance will automatically be removed from the loan once the borrower has 21% or more equity invested in the loan.
Although mortgage insurance is an additional cost, it can help people who otherwise would not be able to afford the home they are looking for. That said, it is important to review the terms of the mortgage insurance so that you understand the additional costs before you assume a new loan.
