What is Private Mortgage Insurance (PMI)?

Answer

Photo - Two people talking about private mortgage insurance ©Jacob Lund/Fotolia

Private mortgage insurance, also called PMI, is a type of insurance that private lenders require you to pay. You can avoid paying PMI by making a down payment on a home of 20 percent or more.

Protection for lenders

PMI protects lenders and is the reason lenders even consider approving a mortgage with a down payment of less than 20 percent. You pay the premiums, and your lender gets paid if you default on your loan.

The cost of PMI

You usually pay PMI each month, added to your mortgage payment. PMI rates vary depending on how large a down payment you make and on your credit score. Generally, the bigger the down payment and the higher your credit score, the lower your PMI will be.

PMI premiums usually range between 0.5 percent and 1 percent of the loan. If your loan amount were $180,000, for example, expect to pay between $75 and $150 a month. As soon as your loan-to-value ratio is 80 percent, you can stop making PMI payments.

Example

Let’s say you bought a house that costs $200,000 and you put down 10 percent, which would be $20,000. Your mortgage would be $180,000. In this case, your loan-to-value ratio would be 90 percent.

Final Thoughts

Once you’ve made enough payments to bring your mortgage down to $160,000, your loan-to-value ratio becomes 80 percent. You can now cancel the PMI insurance. Don’t expect the lender to automatically cancel your PMI. You should request cancellation as soon as you’ve paid 20 percent of your mortgage. But remember, if you can make a down payment of 20 percent, you can avoid PMI altogether.

Side note

A VA loan does not require private mortgage insurance.

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