If you are a homeowner you most probably have heard of it. If you are a buyer you might know a bit about it and may be wondering why you have to pay for it. Mortgage insurance. So what exactly is it and how do you pay?
Borrowers whose loans are guaranteed by the Federal Housing Administration (FHA) don’t pay Private Mortgage Insurance (PMI). Instead, they pay for the guarantee through Mortgage Insurance Premium (MIP).
How Does an FHA Home Loan Work?
“FHA home loan” doesn’t mean that the loan is given by FHA. Rather, it’s a loan given by a private lender guaranteed by the FHA. In case you (the borrower) stop making the payments, the lender’s reimbursed by the FHA.
The money to back up the guarantee comes from the borrower in form of MIPs paid to the FHA. Generally, getting an FHA home loan means you don’t pass for a conventional loan. For instance, you could be lacking on down payment money or you have weak credit.
It’s important to note that the FHA has its own standards for these loans; they are just less strict that the standards for conventional loans.
PMI is a loan requirement set by Fannie Mae and most of the investors that borrowers must pay the mortgage insurance if a down payment of at least 20% of the purchase price of a home isn’t provided. This benefits the lender as it covers them in case the borrower does not continue paying up the loan.
To a lender, this down payment is evidence that you are prepared financially to take the monthly mortgage payment. The larger the amount you give as down payment the more proof you have that you’ll not be a defaulter in the future.
It’s important that when choosing a mortgage plan, you get a loan that meets your specific needs and plans. You might have to pay PMI for a mortgage but it’s also possible to avoid PMI by obtaining more than one loan. Alternatively, you can avoid PMI if you take a first mortgage to 80% of the loan and another mortgage for the balance.
However, if you have to take a loan with attached PMI, there’s some good news for you. You can call the lender for cancellation after you have reached an equity of 20% in your home. In case you haven’t called them, they are required by the law-under the Homeowners Protection Act of 1998-to discontinue it if you reach 22% equity.
As aforementioned, borrowers pay MIP as an insurance to the lender against the loss that would occur if the former defaults. While it’s possible to avoid PMI when it comes to conventional loans, there’s no way one can avoid MIP with FHA loans since the down payment is 3.5%.
If your loan originates as of 4th October, 2010 and your FHA term is above 15 years, your monthly payments for the mortgage insurance are going to be canceled when the Loan-to-Value (LTV) reaches 78%. The calculation for this is based on the original FHA home loan value and if the payment you made for annual MIP amounts lasted for five years or more. For a 15 years or less FHA home loan term, an LTV of 90% or more will see you stop paying the monthly mortgage insurance after LTV reaches 78%. Mortgages having an LTV of 89.99% won’t be charged annual MIPs.
There you are. With that information you are at a better position to take a loan of your choice. Remember to take one that best fits you and contact an advisor for expert guidance.