Or, call me at: OK, you’ve heard the acronyms MIP, UFMIP, and PMI and knew they had something to do with mortgage insurance, but you didn’t know the specifics. If this is the case, you’re not alone! Many mortgage borrowers are confused about what mortgage insurance is and when it applies. My goal with the following is to help clear things up a bit.
What is Mortgage Insurance?
First, what is mortgage insurance? Many mortgage borrowers are under the mistaken impression that mortgage insurance is an insurance policy that protects them against loss when, in reality, it actually protects the lender. If paying an insurance premium to protect the lender doesn’t sound like a very good deal, let me explain a bit more!
Mortgage lenders have historically viewed the 80% loan-to-value (LTV) ratio as the maximum prudent standard for conventional mortgage financing. In other words, lenders didn’t want to lend more than 80% of the value of the house under standard conventional guidelines. As housing prices increased, down payments also increased and made it tougher for many borrowers to buy a home. Mortgage insurance is designed to mitigate the increased risk for the lender of higher LTV loans while allowing borrowers to qualify with smaller down payments.
Mortgage insurance basically allows lenders to offer financing options that would otherwise be available only with high interest rates or be completely unavailable at all.
If you’re considering a loan with mortgage insurance, you have to weigh the pros and cons just like anything else. Yes, it is a cost you have to bear as part of carrying a mortgage, but if it enables you to purchase a home with less of a down payment, it may be beneficial. Whether or not the extra cost is worth it just depends on your situation and goals.
Now that I’ve gone over the “why” of mortgage insurance, let’s dig into how it works and where it applies. The three most common “flavors” of mortgage insurance in the mortgage marketplace are PMI, UFMIP, and MIP.
Private Mortgage Insurance (PMI)
Private mortgage insurance, or PMI, applies to conventional Fannie or Freddie financing and is usually required on loans with a loan-to-value greater than 80%. In other words, if you’re purchasing or refinancing a home and the loan amount is more than 80% of the appraised value, you’ll likely be required to carry PMI.
PMI can usually be paid in several different ways, but the most common is in the form of monthly installments as part of your regular mortgage payment. How much the PMI payment will be depends primarily on the loan amount, but it can be in the tens of dollars range for small loans or hundreds of dollars every month for larger loans.
Fortunately, if you have PMI, you’re not stuck with it for the life of the loan. Once you’ve paid down your loan to 80% LTV, you can ask your lender to cancel the PMI. For more information about your right to cancel PMI, check out the following link:
Homeowners Protection Act of 1998
Up-Front Mortgage Insurance Premium (UFMIP) and Mortgage Insurance Premium (MIP)
Borrowers taking out an FHA loan are required to pay both UFMIP and MIP (also sometimes called Annual Mortgage Insurance). UFMIP is paid up-front at loan closing (hence the name Up-Front Mortgage Insurance Premium) and is calculated as a percentage of the loan amount. MIP is paid in the form of monthly installments as part of your regular mortgage payment. Unlike PMI, MIP is required to stay on your loan for a minimum of 5 years, regardless of whether you’ve paid down your loan to 80% LTV or less.
Having to pay two types of mortgage insurance on an FHA loan might not seem like a good deal at first glance, but it makes it possible for many borrowers to get financing that can’t qualify for standard conventional Fannie and Freddie loans. Lenders are willing to lend under the more relaxed FHA guidelines because they know they’re covered at least in part by the federal government. According to FHA guidelines, mortgage borrowers with credit scores as low as 580 can qualify for a 3.5% down payment purchase loan. Not every FHA lender will offer this program, but you definitely can’t get that with a conventional Fannie or Freddie loan.
Conclusion
If you’re planning to take out an FHA loan or a conventional loan with an 80% or greater loan-to-value, you can pretty much plan on being required to carry mortgage insurance. Again, whether it’s worth it just depends on your goals and situation. If carrying mortgage insurance allows you to make a smaller down payment and keep more cash on hand, it might be worth it. It’s important to work closely with your loan consultant to evaluate the pros and cons – as well as the costs – associated with mortgage insurance on the loan options you’re evaluating.
