What Is Private Mortgage Insurance (PMI), and How Can You Avoid It?
If you’re shopping for a new home, there’s a good chance you’ve heard about private mortgage insurance or PMI.
PMI is an extra cost that’s typically tacked on to your monthly mortgage payment if you cannot supply a 20% down payment on your loan. If you default on your loan, PMI makes sure your lender is paid. Reducing the risk to the lender means they are more likely to take a chance on someone who doesn’t have a lot of cash for a down payment.
While no one likes extra costs, this isn’t necessarily a bad thing. The protection PMI provides minimizes the down payment risk when you don’t have cash reserves for a down payment. So in the long run, while you may not like the extra cost associated with PMI, having it makes it easier for you to get into a home, and that’s a good thing.
What does PMI cost? The cost of mortgage insurance varies depending on how much you plan to borrow, how much you put down, and what your credit is like. The lower your down payment and credit score, the higher your PMI payments will be. But one thing is certain: it’s not likely to be the bulk of your mortgage payment, which will be dominated by interest and principal balance.
You may even find your monthly PMI payment is less than your monthly cable bill, or the cost of that daily cup of coffee from your local coffeehouse. While PMI does add to your mortgage costs, it’s likely to help you get into the home loan you applying for.
The good news is that PMI payments do not last forever. Once you manage to get 20% equity in your home, you can talk to your lender to drop the PMI payments. This will take longer than you expect since most of your early payments will go to paying off interest, instead of principal—but you will eventually be able to make PMI a thing of the past, even if your loan initially requires it.
What if I do not want to pay for PMI? You do have some options for avoiding mortgage insurance; the easiest being to save up for a 20% down payment in the first place. But even if you don’t have 20%, you may be able to shop around and find a lender who’s willing to loan you money without PMI, especially if you have good credit.
If neither of these are options, you should look into different mortgage loan programs that do not require PMI. Common alternatives to a traditional mortgage loan are FHA and VA loans.
- FHA loans can be a good way to get into a house if you don’t have the cash or the credit to get a traditional mortgage loan.With down payments as low as 3.5% and the ability to bundle closing costs and other fees into the loan, this can be a low-cost way of getting into a home. However, there are fees involved. You will be paying the FHA in return for them guaranteeing the loan to your lender. This may help you get into a home without a down payment, but it might not save you money over the life of the loan.
- If you’re a veteran, active service member, or surviving spouse, you may qualify for a VA loan. If you do, you won’t have to pay mortgage insurance or have to front a 20% down payment. VA loans can be had with as little as zero down. You will be required to pay a funding fee, which varies depending on the type of loan, how much you put down, and your military category. However, if you don’t want to pay it up front, you can bundle it into the cost of the loan.
The lesson here is that you should shop around. Whether you have the cash for a down payment or not, there are lots of loan options available to you and each one comes with its own costs. Be sure to take a close look at your options before you make a final decision.