If you put less than 20% down on a home, you’ll likely pay mortgage insurance. This insurance protects the lender should you stop making payments on your loan. The insurance will pay the lender back a portion of the amount they lost by repossessing your home.
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Just how long do you have to pay this insurance? It depends on the type of mortgage you have.
Conventional Loans and Mortgage Insurance
If you took out a conventional loan, such as a Fannie Mae loan, you pay what’s called Private Mortgage Insurance. Lenders require you to pay this insurance if you make a down payment of less than 20%. By law, this insurance must be canceled by the lender once you owe less than 78% of the home’s original value, though.
There’s even better news, though. You can request cancelation of the insurance as soon as you owe 80% or less of the home’s current value. This may happen sooner than your original mortgage documents show, but it’s up to you to prove that you do owe less than 80% of the home’s value.
If you follow the original amortization schedule, you will know the exact month that you will be able to request that the lender cancel your PMI. You must request the cancelation in writing. If you know your home appreciated, though, you may request cancelation sooner. Here’s how.
First, you must order a professional appraisal. While you can likely get an estimated value of your home on sites like Zillow and Redfin, the lender needs solid proof that the home is worth what you say. With a professional appraisal report in hand, you can determine if you owe less than 80% of the home’s new value by dividing the home’s value by the outstanding principal balance on your loan. If it’s less than 80%, you can request cancelation.
Keep in mind, though, that this is up to lender discretion. Some lenders allow you to cancel PMI early if you can prove your home appreciated, while others don’t allow this method. If that’s the case, you must wait until the anticipated date that you will hit an 80% LTV to cancel the insurance.
FHA and USDA Loans and Mortgage Insurance
If you take out a government-backed loan, such as an FHA loan or USDA loan, you’ll also pay mortgage insurance. In fact, you’ll pay mortgage insurance twice with these loans. The first time is at the onset of the loan. You can either pay the insurance upfront at the closing or wrap it into your loan amount.
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You’ll then also pay annual mortgage insurance, which is similar to the conventional loan’s PMI. Unlike conventional loans, though, with government-backed loans, you can’t request cancellation of the mortgage insurance. You pay the premiums for as long as you have the loan.
Luckily, your premiums will drop as you pay down your principal balance, but the insurance never goes away. The lender figures your annual mortgage insurance premium based on the average annual balance of your mortgage each year. They then charge you 1/12th of that amount with your mortgage payment each month.
The only way to get out of paying mortgage insurance on a government-backed loan is to refinance out of that loan program. Many borrowers take an FHA loan because of the low down payment requirements and flexible underwriting guidelines when they first buy a home. Once they are more established and able to qualify for a conventional loan, owing less than 80% of the home’s value, though, they refinance out of the FHA loan. This eliminates the mortgage insurance once and for all.
VA Loans and Mortgage Insurance
The one government-backed loan that doesn’t require mortgage insurance is the VA loan. This program, which is reserved for veterans, requires only a VA funding fee at the onset of the loan. The VA nor the VA approved lenders require mortgage insurance.
The VA does guaranty the loans for the VA approved lenders, though. If a veteran defaults on their loan, the VA pays the lender 25% of the amount lost. This is often much higher than any down payment borrowers make, so it’s a decent risk for lenders to take.
Mortgage insurance is there to help you get a loan with little money down on it. While it seems like yet another pesky fee, it does help you become a homeowner. Without that insurance and/or 20% down on the home, you could find yourself without the home you wanted.