Anyone purchasing a home with a low down payment is very likely going to require the addition of Personal Mortgage Insurance (PMI). But PMI isn’t all bad. In fact, PMI allows you to qualify for a down payment of less than 20 percent because the mortgage insurer takes on part of the risk. And, with PMI, you can get in your home and start building equity sooner than if you stayed out of the market and kept trying to save as prices rose.
Some loan programs, such as FHA, require PMI for the entire life of the loan. However, you can refinance to a conventional when you reach 20-percent equity and have it removed then. The key is to get to that magic figure, which is when you can either ask to have PMI removed or refinance to have it removed. And it’s also possible to get better terms with a refinance, particularly if your credit and/or income has improved during the time you’ve owned your home.
Yes, PMI is an extra monthly expense, but the “pros” far outweigh the “cons,” especially if you live in a hot housing market. The key is to get into a house now before prices pass you by. If you already own your home and are paying PMI, keep a close eye on your home’s value. A loanDepot Licensed Lending Officer can answer any questions you might have about when and how to remove PMI. Call (888) 983-3240 to learn more about your options.
In the meantime, here are a few strategies for knowing when you can ask to have PMI removed, or not. Or not need it in the first place:
Monitor your equity
Lenders require PMI when a borrower puts down less than 20 percent. Your equity reaches 20 percent when what you owe is at 80 percent, based on loan-to-value (LTV). The “loan” amount decreases as you pay your principal each month and the “value” is what the home is currently worth. In a strong housing market, the value is usually going to go up faster than your principal is going to decrease. In markets where prices are going up very quickly, a 10-percent rise in value can happen within a couple of years.
If you put 10 percent down, and the market has increased 10 percent, you should have 20-percent equity. (Closing costs, etc., may affect this – so make sure to check your monthly mortgage statement for your exact total amount owed.)
Keep a close eye on neighborhood comps, which can be done by tracking various real estate sites. When you come across homes very similar to yours that are selling at about 20 percent more than you owe, speak with a Licensed Lending Officer. They have access to market data that may provide a clearer idea of your home’s value which can help determine if you are at the magic number yet or not.
Paying for an appraisal yourself isn’t advisable, since the money would come out of your pocket. The lender would be required to order another appraisal anyway – which you would also pay for – so it’s probably better to wait.
Consider a second mortgage
If you haven’t bought yet, there is another way to avoid PMI but it is not for everyone. It is possible to take out a second mortgage for the extra down payment cost. For example, if you put a down payment of 10 percent, take a primary loan of 80 percent and take a second mortgage of 10 percent on the home.
This method does have caveats, however. For instance, the second mortgage will most likely have adjustable interest and come with a rate that’s higher than what you pay on your first. Paying it off quickly will prove financially advantageous, so make extra payments whenever possible while keeping a close eye on when the loan is due to adjust. If the rates go up, you could be paying even more. The main advantage to this method is that the second is tax-deductible while PMI is not.
Consider a higher interest rate
Another possibility if you haven’t purchased yet is asking if your lender will allow you to avoid PMI with a higher interest rate. By paying a slightly higher rate, your lender is able to purchase the insurance to protect against financial losses. A slightly higher interest rate will add to your monthly payment, but it will usually be a lower rate than purchasing the insurance policy. And again, the mortgage payment is tax deductible while the PMI is not.
Improve your home
If you can make key improvements to your home, you can help raise its value to reach the 20-percent threshold. Strategize these improvements wisely so you can you’re not spending too much that you can’t recoup back. This may be especially helpful if the shape of your home was considered sub-par when appraised. If you can fix the issues without tapping into equity that will need to be accounted for when considering your overall LTV, you can raise the home’s condition up a couple notches.
During appraisal, homes are given a rating between C1 and C6. The former is in top condition while the latter is in poor. C1 through C3 are considered well-maintained and in good condition. If you’re on the edge, such as C4, and can get it to a C3, that may be enough to increase the value to what you need to get to 20 percent.
Keep in mind, with some loans, you can ask to have the PMI removed once you hit 80 percent LTV, but in many contracts (not just FHA), you cannot. When this occurs, you will need to to get rid of PMI. Don’t delay and pay more than is necessary.
If you suspect that you might be approaching the 20-percent equity mark, speak to a loanDepot Licensed Lending Officer today at (888) 983-3240 to discuss your options.
Published Sept. 19, 2017
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