How Expensive Is Private Mortgage Insurance (PMI)?
Understand the complete financial impact of Private Mortgage Insurance (PMI). Discover how its cost is determined, managed, and eventually eliminated.
Private Mortgage Insurance (PMI) is a type of insurance that lenders often require for conventional mortgages when a homebuyer makes a down payment of less than 20% of the home’s purchase price. While the borrower pays for it, PMI primarily protects the lender against potential losses if the borrower defaults on the loan. This insurance allows individuals to purchase a home sooner, rather than waiting to save a larger down payment.
What Determines PMI Cost
Several factors influence the cost of Private Mortgage Insurance. The loan-to-value (LTV) ratio is a primary determinant; a higher LTV, which indicates a smaller down payment, results in higher PMI rates because it represents increased risk for the lender. For instance, putting down 5% instead of 15% will lead to a higher PMI percentage. The borrower’s credit score also significantly impacts the premium, with higher credit scores leading to lower PMI costs as these borrowers are perceived as less risky.
The total loan amount directly affects the dollar cost of PMI, as it is calculated as a percentage of the loan balance; a larger loan will incur a higher dollar amount in PMI, even if the percentage rate remains constant. While PMI applies to conventional loans, other loan types, such as FHA loans, have different mortgage insurance structures. PMI rates can vary between different insurance providers and lenders, and factors like debt-to-income ratio also play a role in the overall cost.
Typical PMI Costs and Payment Methods
Private Mortgage Insurance costs range from 0.2% to 2.25% of the original loan amount annually. For example, on a $300,000 mortgage, an annual PMI rate of 1% would translate to $3,000 per year, or approximately $250 added to the monthly mortgage payment.
The most common way borrowers pay PMI is through monthly premiums, which are included as part of their regular mortgage payment. Another option is Lender-Paid PMI (LPMI), where the lender pays the premium upfront; the borrower compensates for this through a higher interest rate or increased closing costs. A less frequent method is Single Premium PMI, where the entire insurance cost is paid as a lump sum at the loan closing, leading to lower monthly payments, but requires a significant upfront cash outlay.
How PMI Payments Can Stop
Federal law, the Homeowners Protection Act (HPA), outlines the conditions under which Private Mortgage Insurance payments can cease. One mechanism is automatic termination, which occurs when the loan balance is scheduled to reach 78% of the home’s original value. PMI also automatically terminates at the midpoint of the loan’s amortization schedule, such as after 15 years on a 30-year loan, if the borrower is current on payments, even if the 78% loan-to-value threshold has not been met.
Borrowers can also initiate the cancellation of PMI once their loan-to-value (LTV) ratio reaches 80% of the home’s original value. To request this, borrowers need a good payment history, must be current on their mortgage, and certify that there are no junior liens on the property. An appraisal might be required to confirm the home’s current value, especially if significant home value appreciation has occurred, which can help reach the 80% LTV threshold sooner than scheduled. Refinancing the mortgage to a new loan with an LTV below 80% is another way to eliminate PMI.