If you're looking for home loans or already have an existing mortgage, you've probably heard the term PMI tossed around among all of the financial wording hidden within your paperwork. PMI, or Private Mortgage Insurance, is an additional charge that some homeowners may have to pay each month in addition to their principal, interest, and escrow. But what is PMI and how does it work? Does it help or hurt the homeowner?
The Purpose of PMI
When buyers read the term private mortgage insurance, they assume it is designed to protect them in the event that they have trouble making payments or default on their mortgage. The truth is that PMI is actually designed to help the lender or bank who has issued the mortgage. If a borrower defaults and has PMI, the bank can then file a claim and recoup their losses through the PMI policy. High risk borrowers or those without a certain percentage of down payment are usually required to purchase PMI. The homeowner essentially does not have any payment protection with their PMI policy and must either refinance, sell, or foreclose if they are unable to make mortgage payments.
How it Affects You
For most, PMI is tax deductible, which is a positive aspect. You can usually claim it each year on your annual tax return along with the interest paid on your home. For people who earn less than $110,000 per year, they can claim the PMI as a valid deductible. On the downside, some lenders will not refinance homeowners who have an existing PMI policy attached to their current mortgage. The cost of PMI can vary based on a number of factors including the value of the mortgage, the amount of down payment, and credit score.
How to Remove PMI
One of the most common questions regarding PMI is how to get it removed from your loan so that you lessen your monthly payment. Most lenders will consider removing PMI only after the LTV, or loan to value ratio of your home is at least 80%. This means that your home's value must be 20% higher than the amount of your current principal owed. This can be very difficult for the average homeowner and may take years to achieve. You also have to request the cancellation in writing and wait for approval. An appraisal may be required and if the new determined value turns out to be lower than the original appraisal, you cannot have it cancelled.