According to the National Association of REALTORS®, the median down payment on a home last year was 12% for all buyers and just 7% for first-time buyers. It is therefore quite possible to enter a house with less than 20% down payment. However, anything less than this requires private mortgage insurance (PMI) and many optimistic buyers believe that this additional cost may be enough to exclude them from property.
But how much does mortgage insurance cost? What are the advantages and disadvantages? Let’s explore PMI a little more and let’s get it straight.
What is PMI and how is it calculated?
The less a borrower appropriates a house, the more risky it appears to a lender. PMI is a form of insurance, paid by the borrower, that protects the lender against financial loss in the event of foreclosure.
Wayne Lacy, branch manager at Cherry Creek Mortgage Company in Okemos, explains that for conventional loans, the PMI is calculated using a risk-based pricing model, like any other type of insurance.
“It is determined by the risk factors of a loan, which include credit score, down payment amount, debt-to-income ratio, loan amount and the purpose of the loan, that is – say whether it is a purchase or a refinancing, “he said. “Typically, rates start around 0.4% of the loan amount and go up from there. It could reach 1.2% or even more. Again, it only depends on the financial profile of each borrower.
As an example, Lacy ran a few numbers. For a borrower who purchases a home for $ 225,000 with a 5% down payment, a FICO score of 760, and no major credit event, the monthly premium would be around $ 46.
“But if the borrower’s FICO score is lower and / or there are blemishes on the credit report, the rate could go up,” Lacy said. “For example, a PMI rate of 1.0% on that $ 225,000 loan would be about $ 187 per month.”
How is the PMI paid?
While most commonly referred to as PMI paid as a monthly premium, it can also be paid as a lump sum at closing. A borrower can also optionally withdraw it from the loan by increasing their interest rate to cover the premium.
Lacy says that how PMI is paid is an important consideration, especially in today’s environment.
“Currently, we are closing at interest rates so low that borrowers may want to consider taking a slightly higher rate and repaying the PMI up front,” he said. “That way they can lock in a low rate and not worry about paying a monthly premium or refinancing two years later for a much higher rate, or maybe the same rate, but with closing costs. . “
How long do I have to pay PMI?
Your loan amortization schedule indicates when the PMI will be canceled, which is typically when a borrower reaches 22% equity (78% loan-to-value ratio).
“You can apply for PMI cancellation sooner if you’ve made additional payments that reduce your mortgage principal balance to 80% of the loan-to-value ratio,” Lacy said. “But it is up to the lender to decide whether or not he is withdrawn at that time, and he may require an appraisal to prove that the value of the property has not fallen below the original value of. the House.”
How does it work with government guaranteed loans?
Instead of the PMI, government guaranteed loans require borrowers to pay a mortgage insurance premium, or MIP.
While the PMI is risk-based, the PMI is a flat rate based on the loan amount. For example, on FHA loans, borrowers will pay 1.75% of the loan amount up front (funded in the loan) and 0.80% to 1.05% per annum, depending on the total loan amount. Unlike conventional loans, the PIM is generally required for the life of the loan.
What are the advantages of PMI?
Of course, mortgage insurance is an additional cost and for most homebuyers any additional cost can seem like a burden. However, PMI can be extremely beneficial, especially when you consider current market conditions.
According to NAR, “The median price of existing homes for all housing types in September was $ 352,800, up 13.3% from September 2020 ($ 311,500). The Association noted, “This marks 115 consecutive months of year-over-year increases.”
While growth is not as strong as last year, many experts believe home prices will continue to rise in 2022. Those who wait to buy until they save a larger down payment might chase house prices for a long time. However, PMI allows hopeful buyers to buy at today’s prices and at historically low mortgage rates, eliminating the risk of both skyrocketing in the future.
“There is a negative sentiment associated with PMI, but it really shouldn’t scare off buyers,” Lacy said. “There is a range of payment options available, and we are able to find a variety of ways to make deals. I wouldn’t want a potential buyer to postpone homeownership just for fear of PMI. Talk to a local lender, work out the numbers, and discuss the options available before making a decision.
For a list of local lenders, visit the Greater Lansing Association of REALTORS® website at www.lansing-realestate.com.