There are many terms and words that are used by real estate agents and mortgage brokers when buying a home. One of those terms that is used when getting a mortgage is "PMI". PMI stands for Private Mortgage Insurance, a type of insurance policy a lender takes out in case the borrower defaults on the loan for any reason. There are a few things to note about PMI for those getting ready to buy a home. Keep this guide in mind before settling on a loan.
A Necessary Cost
PMI is typically required for homebuyers who can't put down at least 20% of a down payment on their home. Because home inflation has risen (without the corresponding salary increases), this means that about half of all buyers need to pay for PMI. The insurance policy works like most standard insurance policies. The insurance company will pay the lender a premium in case they lose money on the property if the buyer can't pay for their mortgage. But instead of a homeowner paying the insurance company directly for this policy, they pay the lender who turns around and gives the money to the insurer.
Budgeting In PMI
PMI in the US can range drastically depending on where a person lives and who they choose to borrow money from. The cost per year can be anywhere from .3 to 1.5% of the total purchase of the home. So if a homeowner pays the maximum PMI for two years on a home worth $200,000, they'll ultimately pay $6,000 purely to the insurance policy. These costs aren't usually charged separately by a lender but are instead bundled into the mortgage payment. Once the homeowner reaches 20% equity in their home, they're allowed to cancel PMI.
How to Approach PMI
PMI is an unwanted expense for any homeowner, but it helps to understand the logic behind it:
- Equity: When a homeowner has more of their own money invested in the home, they're more likely to stay in (and take care of) the property.
- Mortgage Interest Rates: If PMI was outlawed tomorrow, it would mean a spike in interest rates across the board.
- Penalties: PMI is essentially a way to reward those who have the savings available for their down payment.
Homeowners are currently allowed to deduct PMI in most cases. In general, politicians (across the board) are very much in favor of the idea of deducting PMI costs from taxes, which means that homeowners are likely to be treated to this privilege for the foreseeable future. The tax refund an owner receives can help them pay off the loan faster, so they can gain the equity they need to cancel PMI. However, tax rules can change quickly and without much warning, so homeowners may want to consult with a financial professional when planning their budget.
PMI functions as a way to encourage people to save more for their down payment, but the truth is that most homeowners would have to give up their dream entirely if they were expected to come up with the full 20% down payment for their home. We may see more political maneuvering in the future, but as of right now, PMI is still the primary way for protecting lenders from default and home buyers from outrageous interest rates.
The terms of PMI are ultimately determined by the lender, so it pays for owners to shop around. As Piscataway new home buyers meet with different companies, they should get a sense of how the fees are structured, what the cancellation process is like, and how they can pare down their loan faster.