What is a Private Mortgage Insurance (PMI)?

30, November, 2022

Private mortgage insurance (also known as PMI) is a type of mortgage insurance required by lenders like CrossCountry Mortgage on certain types of home loans with low down payment in order to protect the lender if the borrowers were to default on their mortgage payments. The borrower is still at risk of losing the property to foreclosure if they do not meet their mortgage obligations. Although this option allows homebuyers to reduce their upfront costs when buying a house thanks to a smaller down payment, purchasing private mortgage insurance will affect their monthly payments until they have enough equity in the property. Learn everything you need to know about private mortgage insurance, when it is required, what it covers, and how to avoid paying it.

When is Private Mortgage Insurance Required?

Private mortgage insurance (PMI) is required to be purchased by borrowers who are contracting a new conventional mortgage loan if their down payment is less than 20% of the home purchase price or if they are seeking to refinance their home with a loan-to-value (LTV) ratio of less than 80% of the property market value. The borrowers have little control over their private mortgage insurance provider. In most cases, the lender arranges PMI directly with their provider of choice.

Government-backed home loans, such as an FHA loan, allow borrowers to access homeownership with a down payment as low as 3.5% of the purchase price. However, these home loans require private mortgage insurance with the mortgage insurance premiums (MIP) to be paid directly to HUD/FHA. Mortgage insurance on FHA loans is paid in 2 parts; Upfront mortgage insurance premiums, referred to as UFMIP, is most often financed into the loan amount.  In addition, a monthly mortgage insurance premium is paid with the monthly mortgage payment.

Types of Private Mortgage Insurance

1. Borrower-Paid Mortgage Insurance

In most cases, your mortgage insurance premiums will be part of your monthly bill, which also includes your principal and interest payments and other costs, such as property taxes and hazard insurance. If you want to lower your monthly payments and have enough money on hand, you may also choose to pay your mortgage insurance premium in a single lump sum at closing. This will lower your monthly bill compared to what you would have to pay with a monthly premium, and you will not need to refinance your mortgage to eliminate PMI once you have enough equity. However, beware that no portion of the single premium is refundable if you choose to refinance or sell the property before you have enough equity in the property to eliminate PMI.

2. Lender-Paid Mortgage Insurance

On rarer occasions, your mortgage lender will pay your PMI. However, the borrower is not off the hook and will need to repay their mortgage insurance premium in the form of higher interest rates or a higher mortgage origination fee. Although it represents a lower cost upfront, you will repay your lender over the life of the loan, and lender-paid PMI is not refundable. Like borrower-paid mortgage insurance, lender-paid mortgage insurance can only be removed from the loan by refinancing the loan or selling the property.  However, one of the main advantages of this type of mortgage insurance is that, in some cases, the monthly payment could still be lower than making monthly PMI payments despite the increased interest rates.

How Much Does Private Mortgage Insurance Cost?

The cost of mortgage insurance varies based on your loan amount, loan-to-value ratio, and credit score. Typically, the average cost of mortgage insurance ranges between 0.22% and 2.25% of your mortgage. According to Freddie Mac, most borrowers pay between $30 and $70 per month for MIP for every $100,000 borrowed. Mortgage lenders typically choose the lowest cost private mortgage insurance provider for their borrowers.

3 Factors That Impact Private Mortgage Insurance

Several factors affect PMI:

1. Size of Home Loan:

The more you borrow, the larger your private mortgage insurance premiums will be. This amount varies depending on the purchase price of the property and the size of your down payment — if you pay more in the down payment, you will pay less in PMI.

2. Credit Score:

Your credit score signals to the mortgage lender whether you are more or less likely to meet your mortgage obligations. Borrowers with higher credit scores (760 and above) typically have lower PMI rates.

3. Type of Mortgage Loan:

Fixed-rate mortgages usually have lower private mortgage insurance premiums than adjustable-rate mortgages since the latter are perceived as riskier for the mortgage provider.

How to Avoid Paying Private Mortgage Insurance?

Private mortgage insurance protects the mortgage lender until the borrower has enough skin in the game (a.k.a. enough equity in the house) and is less likely to default. There are several options to stop paying PMI once your mortgage principal balance is less than 80% of the original appraised value or the current market value of your home, whichever is less, depending on your lender and the type of home loan you have contracted. Some mortgage lenders automatically drop the MIP once you are scheduled to reach the 78% LTV point. In other cases, you may need to contact your mortgage provider once you have at least 20% equity in the property.

Another way to avoid paying private mortgage insurance is to refinance your mortgage. In most cases, the mortgage lender will request a home valuation – either an appraisal or a BPO (“Broker Price Opinion” is a professional opinion of value) – before accepting to cancel your mortgage insurance requirements.

Read more information on other ways to get rid of PMI.