What is Private Mortgage Insurance?
Private mortgage insurance protects the lender against financial loss if a homeowner stops making mortgage payments. Lenders usually require mortgage insurance on low down payment mortgage loans (less than 20%) for protection in the event that the homeowner fails to make monthly payments. Although the cost of the mortgage insurance is paid by the home buyer, the mortgage insurer works directly with the mortgage lender. Mortgage insurance is available to commercial banks, mortgage bankers, and savings and loans, and all of which offer mortgage loans to home buyers.
Government Insurance and Private Insurance
Low down payment mortgages can be insured in two ways -- through the government or through the private sector.
Mortgages backed by the government are insured by the Federal Housing Administration (FHA) or guaranteed by the Department of Veterans Affairs (VA) or the Farmers Home Administration (FMHA).
The minimum down payment required by FHA is less than 3%. For single-family homes, the standard limit for an FHA-insured mortgage ranges from $86,317 to $170,362 (in certain high-cost areas).
Although anyone can apply for FHA insurance, the other two government mortgage guarantee programs are much more targeted. The VA program is limited to qualified, eligible veterans and reservists. The FHA insures loans for the construction and purchase of homes in rural communities. This program is very specialized, so contact your lender for more information.
Obtaining conventional financing is the alternative to obtaining a home loan backed by the government. Conventional mortgages are all home loans not guaranteed by the government, including those guaranteed by private mortgage insurers.
Mortgage Insurance and How to Avoid It
Government vs. Private Insurance
Although government and private insurance are based on the concept of allowing families to get into homes with less cash down, there are many differences between the two. Often, the lender or loan originator will play an important role in suggesting and deciding which insurance is selected.
Home buyers must make a down payment of at least 5 percent of a home's value to be considered for private mortgage insurance. The down payment requirement drops to 3 percent for special affordable housing programs geared toward first-time, lower-income buyers.
Private mortgage insurance is available on a wide variety of home loans and there is no pre-set limit on the loan amount. Although differences such as these may affect whether the lender prefers to work with government or conventional mortgages, your lender will discuss which one would be better for your situation.
Lender Paid Mortgage Insurance (LPMI)
You may also be offered "lender paid" mortgage insurance ("LPMI"). Under LPMI plans, the lender purchases the mortgage insurance and pays the premiums to the insurer. The lender will increase your interest rate to pay for the premiums -- but LPMI may reduce your settlement costs.
You cannot cancel LPMI or government mortgage insurance during the life of your loan. However, it may be possible to cancel private mortgage insurance at some point, such as when your loan balance is reduced to a certain amount (see next page). Before you commit to paying for mortgage insurance, find out the specific requirements for cancellation.