Eliminating PMI is one of the easiest ways to save thousands of dollars a year on your home mortgage. Private mortgage insurance (PMI) is a type of insurance policy that protects lenders from the risk that the buyer will default and push their home mortgage into foreclosure. It also allows buyers who have not made a significant down payment of 20% when their home was purchased. If you purchase a home and put down less than 20%, your lender will probably minimize its risk by requiring you to buy PMI insurance.
PMI can add a sizable increase to your monthly house payment, as it can cost from 0.3 to 1.5% of the loan amount annually. This article will explain three different ways of eliminating PMI.
Here is how much you can save by eliminating PMI
For example, for a $100,000 loan, you could be paying as much as $1,000 a year – or $83.33 per month – assuming a 1% PMI fee. PMI on a $200,000 loan could cost up to $2,000 per year, or $166.67 each month, assuming a 1% PMI rate. The median listing price of U.S. homes, according to Zillow, is $279,000 (as of Feb. 28, 2019), which means families could be spending as much as $233 a month on PMI.
In the Denver market areas, home prices are typically much higher than national averages. To put this into better perspective, if a couple who owns a $250,000 home were to instead take the $208 per month they were spending on PMI and invest it in a mutual fund that earned an 8% annual compounded rate of return, that money would grow to $37,707 (assuming no taxes were taken out) within 10 years. Wow!
What you need to know about PMI
Somewhere around 1 in 2 borrowers take out loans that require PMI. The majority of those loans were made with down payments of 5% to 20%.
You’ll often hear bankers or real estate agents refer to the loan-to-value ratio. That’s the amount you’re borrowing divided by the property’s market value. To calculate whether your loan balance has fallen to 80% of the original value, divide the current loan balance (the amount you still owe) by the original appraised value (most likely, that’s the same as the purchase price). For example, if you make the absolute minimum down payment of 3%, then you’ll move in with 3% equity and your loan-to-value ratio will be 97%.
The minimum down payment is among the many rules set by the two government-controlled companies, Fannie Mae and Freddie Mac, that buy the majority of mortgages.
Lenders who want to sell their loans to Fannie and Freddie must ensure that every loan meets or conforms to their minimum standards, which is where the term “conforming loans” comes from.
Every lender is different. Read the fine print of your PMI contract to determine the procedure to eliminate PMI. Also note that FHA mortgage requirements differ from conventional loans, and depend on when your loan originated and how much money you put down. FHA loans may have PMI tied to the loan for the life of the loan regardless of LTV. You may need to refinance into a conventional loan to get rid of PMI. Given your LTV and credit score, you may need to get out of an FHA loan to save yourself money every month. Check with your lender to find out how and when you can drop the mortgage insurance premium (MIP).
PMI is not a tax-deductible expense. Up until
PMI is not insurance for you. Some homeowners hear the word “insurance” and assume that their spouse or kids will receive some sort of compensation if they die. This is not true. The lending institution is the beneficiary of any such policy, and as such, the proceeds are paid directly to the lender. If you want to protect your heirs and provide them with money for living expenses upon your death, you’ll need to obtain a separate insurance policy.
Usually when your equity tops 20% (some lenders require 22%), you no longer have to pay PMI. However, eliminating PMI isn’t as easy as just not sending in the payment. Many lenders require you to draft a letter requesting that the PMI be canceled and insist upon a formal appraisal of the home prior to its cancellation.
Different ways for eliminating PMI
There are several ways for eliminating PMI. Remember, the goal is to achieve 20% (some lenders require 22% equity, so be sure to check their requirements) equity in your home so you can eliminate the PMI monthly payment.
Your home will likely appreciate over time. How much time that takes is the question because the real estate market fluctuates on a regular basis, going up and down through cycles.
However, one method to increase equity is to “force appreciation” on your home by improving it. This is accomplished by adding amenities which place your home is a higher value bracket. If your home had below average appeal when you bought it, an updating can do wonders. This is different than a remodel, which is more extensive and therefore more expensive. I have seen kitchens greatly improved by being repainted, installing new countertops and appliances, as well as lighting and flooring. None of this has to be high end to achieve very desirable results
How much will that improvement gain for value? Research your market area and divide the homes into categories. Homes that have been extensively remodeled could be called A list homes, with B list homes being nicely updated homes, and C homes being plain vanilla average, and D list homes being dated or in poor condition. With a bit of math, these categories could be grouped into price ranges. If the value difference between a D list home and a B list home is greater than 20%, you now have your path to follow to improve your home to gain 20% equity and eliminating PMI.
This may not be quite as simple as it sounds, as there are many factors to consider, which include size (square footage), age, condition, number of bedrooms and bathrooms, style, and, of course, the holy grail of real estate: location.
A similar, but slightly different,
Lastly, there is just old-fashioned market appreciation. Hopefully, your home will appreciate in value on its own. If forced appreciation is not possible, you might have to sit back and wait for the market to gain in value for you to achieve a 20% equity stake in your home. Monitor the market from time to time to stay informed on your target goal
What to do next
When you get to the point of gaining 20% equity – one way or another – call me for a PMI appraisal that will establish market valuation, which can then be used for eliminating PMI. Be sure to check with your lender to make sure that you both completely understand the methods and desired results you intend to achieve so there are no surprises that might throw your plan off track.
Many people have been successful in eliminating PMI using these techniques, and are saving a lot of money every month. With proper planning and analysis, you can too. We could be talking about a new car, or a bonus luxury vacation – so it is worthwhile to investigate this!
Not all appraisers are the same. Experience and skill sets can vary. For an in-depth explanation of what make an excellent appraisal, visit my web page here; “What Makes an Excellent Appraisal”
If you can demonstrate that the value of the property is sufficient to lower the mortgage value to 80% or less of your home’s current value, and the lender refuses to cooperate; you can file a complaint online with the Consumer Financial Protection Bureau (CFPB). This is a US government agency that will forward your complaint to the mortgage lender and work to resolve the issue.
(Special thanks to Investopedia for references used in this article)