WHAT IS PMI?

PMI is short for Private Mortgage Insurance. It is an insurance policy that applies to conventional mortgage loans when the down payment or borrower equity in the home is less than 20%.  Lenders refer to this in terms of loan-to-value (LTV) ratio.  For instance, in a purchase transaction, if you put down 20% of the purchase price, the LTV would be 80%.  (20% + 80% = 100% of the purchase price)  The policy protects the lender in the event that the borrower defaults on the mortgage payments.  For instance, if a borrower were to default on the loan, and the lender were to take the home in a foreclosure, the lender might be faced with trying to remarket the home in a depressed market where the market value of the home was less than the amount of the outstanding loan…plus they would have to pay attorney fees, court costs, property maintenance, outstanding property taxes, insurance, etc.  The PMI policy helps the lender recapture some of these losses, and stabilizes the risk of lending.  

WHAT IS THE BENEFIT OF PMI?  

PMI allows you purchase more home with less than a 20% down payment using conventional financing. Banks traditionally prefer you to put 20%, but the PMI policy helps balance the risk for the lender, so the lender will lend more against the value of the home.

CAN PMI BE TAX DEDUCTIBLE?

PMI can be tax deductible on your income tax return.  The amount that you are able to deduct is related to the amount of income that you file for the tax return and, like all tax deductions, is reviewed each year and is subject to changes in the US tax code.  To determine if PMI is deductible for you, be sure to consult your tax advisor.    

DIFFERENT KINDS OF PMI  

There are 4 basic types:

1. Monthly – this is the most common type of PMI.  It appears as a monthly line item on the breakdown of the monthly mortgage payment.  Over time, the policy can be canceled as you gain a sufficient equity position in the home.
2. Single Premium (Borrower-Paid) – This is a one-time premium that you pay at closing when you buy the home, or if you're refinancing it can potentially be financed into the new loan.
3. Split premium – This is a combination of both the monthly and single premium options.  The borrower pays a lower upfront premium than a standard single upfront premium, and also enjoys a lower monthly premium.  
4. Single Premium (Lender-Paid) – This is a one-time premium that your lenders pays at closing when you buy the home.  Many lenders that offer this option tend to increase the interest rate and/or pricing for the new loan, so be sure to ask your loan originator to explain all of the options.

HOW ARE PMI POLICY PREMIUMS DETERMINED?

In 2019, PMI companies in the US moved to a risk-based pricing model.  There are several factors that are considered in your estimated premium including:

1. The loan-to-value (LTV) ratio of the new loan (i.e. – the amount of down payment, such as 3%, 5%, 10%, 15%)
2. The borrower's credit score
3. Debt-to-income ratio.
4. Loan size

HOW TO REMOVE PMI

Most homeowners who have PMI often ask, "how can I remove PMI" or "how soon can I cancel PMI"? The good news is that consumers have rights when it comes to canceling the PMI policy on their loan.  

Consumers are protected under a law called The Homeowners Protection Act (HPA or PMI cancellation act) which was signed into law 07-29-1998 and became effective 07-29-1999.

There are two ways to remove PMI:

1. Natural Amortization - By law, PMI is automatically cancelled when your natural amortization reaches 78% of the original value/purchase price of your home.  Your lender will send you a written notice of the cancellation.  
2. Accelerated Cancellation – PMI can be removed earlier than the natural amortization period, provided that you 1) have made your payments on time and 2) you have achieved a sufficient equity position in the home.  If your property value has increased over the years and you compare the new estimated market value to your current loan value (loan balance ÷ new market value of the home) and the ratio is 0.78 or less, then you may be eligible for early cancellation.  As a homeowner, you must be proactive in this process.  Lenders do not constantly monitor the value of your home, so it is your responsibility to point out a higher market value to their attention, as by default they will always assume that your home is the same value as the day you bought it.  

To request an early cancellation, follow these steps:

1. Contact your mortgage company and request that they perform a market analysis of the home. This is done at the homeowner's expense and the mortgage company will place the order for a market valuation report of the home, such as a competitive market analysis (CMA), Broker's Price opinion (BPO) or even a full appraisal, at their discretion.  Before you initiate the market valuation, request that the lender send you their policies and procedures for removal of PMI once the market valuation is complete.
2. Upon receipt of the new value, the lender will compare the new market value to the current loan balance (loan balance ÷ new market value of the home), and if that value is 78% or less, then the lender, at their discretion, may remove the policy.  Remember that your payments must be on time and your loan should be in good standing.

Want to know more to more about Private Mortgage Insurance?  Check out the above interview with Beth Larson with ESSENT Guaranty, one of the six PMI companies in the US for valuable insights.

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