Private Mortage Insurance

Unless your credit rating is in worse shape than President Bush’s approval ratings, you can probably wrangle a mortgage out of some company somewhere. Any time you hear horror stories from people about their nightmare in securing a mortgage, more often than not the cause of the problem is their credit rating. The reason why mortgages are often easier to secure than other types of loans is because of the house itself. You see, a mortgage has a built-in asset than many other loans simply don’t. The house itself. The lender is presented with a risk even if the borrower does default on the loan. Often this risk amounts to just the difference between the home’s value and outstanding debt on the home, less the costs involved in foreclosure and reselling the property.

Mortgage companies are not exactly what you would call overly desirous of lending more than a certain percentage of a home’s value due to the danger of the borrower defaulting when there is only a small difference between the home’s value and the amount of the outstanding debt. Because lenders don’t like to do this, they provide themselves a cushion. Mortgage companies will only lend 80% of the home’s value. Why? Because by doing this, they give themselves a measure of insurance against any potential default on the loan.

In recent years, however, the trend has been toward homebuyers using down payments as low as ten to five percent. In some cases, these figures even reach as low as zero percent. These kinds of down payments increases the risk for lenders. But being in the business of making money, they certainly aren’t just going to sit by and watch risk increase in any way for any reason. And so mortgage companies respond to this increased risk by requiring borrowers to have Private Mortgage Insurance (PMI). PMI is a supplemental policy designed to protect the lender in case the borrower should default on the loan with the value of the house lower than the loan balance.
To nobody’s surprise, PMI has turned out to be a veritable goldmine for mortgage lenders. The amount of this insurance can be $50 a month on a $100,000 mortgage. Typically, the PMI is rolled over into the mortgage payment. In this way, homeowners conveniently tend to overlook the PMI fee, and continue paying it long after the loan balance drops below the 80% threshold. A typical 30-year loan can take many years to reach the threshold and by the time you’ve reached it, you’ve likely forgotten all about the little talk the loan application officer had with you about the PMI.

For a long time, there was no legal obligation in place that required lenders to inform homeowners that they had reached this threshold and could drop their PMI. Fortunately, The Homeowners Protection Act of 1999 changed that all that legal and ethical murkiness, and now lenders are legally bound to terminate the PMI once the principal balance of the loan reaches 78% of the original loan amount. The good news is, however, that one need not even wait that long. Another part of the same law stipulates that that the PMI must be terminated when the principal amount reaches 80% if the homeowner requests it. Of course, this law applies only if your home loan was either a first time loan or refinanced after July 1999. Oh, and there’s one other nifty little rule that the mortgage company lobby was successful in attaching to the law: Buyers must also be current on their payments in order to qualify. For those who purchased their homes before July 1999 can have their PMI removed, of course. There’s only two problems. One, the homeowners must initiate the process. And two, the lender isn’t legally obligated to remove it. Fortunately, refusals in these cases have been quite rare.
Another method which the 80/20 percent ratio of home equity can be reached does exist. Real estate value has risen significantly across the US in the past decade, and many homeowners have discovered that the value of their property has risen to the point where the amount of principal owed is less than 80% of their home’s current value. In these cases, as well, lenders are not obligated to remove the PMI, though usually do agree to do so provided the buyer has been a flawless payment record and doesn’t appear to be any particularly exceptional risk for default.