In most cases, the process of buying a home involves taking out a mortgage and making a down payment. However, if your down payment is less than 20 percent of the purchase price of your home or you take out a specific mortgage (such as an FHA loan), you may also need to purchase mortgage insurance. For the lenders, these are high-risk lending situations, so they need mortgage insurance to protect their interests.
What is mortgage insurance and what does it include?
Mortgage insurance is an insurance policy that protects the mortgage lender and the borrower pays for the loan, with mortgage insurance the lender or title holder is covered in the event that you are unable to pay off the mortgage for any reason. This can include default, failure to meet contractual obligations, death or any number of other situations that prevent the mortgage from being paid in full.
How does mortgage insurance work?
Generally, you will need to pay for mortgage insurance if you purchase a home with less than 20 percent interest. This is because you have less investment in the home up front, so the lender has taken on more of the risk by giving you a mortgage. How much you will pay depends on the type of loan you have and other factors.
Even with mortgage insurance, you’re still responsible for the loan, and if you default or stop making payments, you could lose your home to foreclosure.
How much does mortgage insurance cost?
The higher the down payment, the lower your mortgage insurance premium.
With Private Mortgage Insurance (PMI) on a conventional loan, you can expect to pay 0.58% to 1.86% of the principal amount of your loan. This equates to $58 to $186 per month for every $100,000 borrowed.
If you have an FHA loan, your down payment is 1.75 percent of your loan amount, while your annual premium is between 0.45 percent and 1.05 percent. For a $350,000 loan, your upfront MIP premium would be $6,125, and your annual premium would fall between $1,575 and $3,675 (paid monthly with your mortgage).
USDA loans come with an upfront guarantee fee of 1 percent, plus an annual fee equal to 0.35 percent of the loan amount. Using the $350,000 loan example, that would work out to $3,500 up front and $1,225 annually.
For VA loans, the financing fee will range from 1.25% to 3.3%, depending on the amount of your down payment and whether or not you’ve taken out a VA loan before. That comes out to $4,375 to $11,550 for a $350,000 loan.
How is mortgage insurance calculated?
Mortgage insurance is calculated based on the loan amount, loan-to-value ratio (in other words, down payment amount), and other variables. The higher the down payment, the lower your mortgage insurance premium.
Types of mortgage insurance and other fees
The type of mortgage insurance you’ll need depends on several factors, including the type of loan you have. Since mortgage insurance protects the lender, your lender chooses which insurance company provides the policy. Here are the different types of mortgage insurance:
Private Mortgage Insurance (PMI)
PMI, or private mortgage insurance, is usually required if you’re taking out a conventional loan at less than 20 percent. This could include a conventional 3 percent or 5 percent loan or any other type of low down payment mortgage. Most borrowers pay PMI their monthly mortgage payments. The cost varies based on your credit score and loan-to-value (LTV) ratio.
FHA Mortgage Insurance Premium
MIP is the mortgage insurance premium required for an FHA loan with less than 20 percent down. You will pay for the mortgage insurance upfront at closing, and also annually. An upfront MIP is equivalent to 1.75% of your mortgage, while an annual MIP ranges from 0.45% to 1.05% of your mortgage depending on how much you borrowed, your LTV ratio, and the length of the loan term (30 years or 15 years).
Guaranteed fees from the USDA
The USDA guarantee fee is one of the costs you’ll pay for a USDA loan, which is only available to borrowers in certain rural areas and has no down payment requirements. The guarantee fee is paid upfront and annually, with an upfront fee equal to 1 percent of the loan and an annual fee equal to 0.35 percent.
VA financing fee
VA loans also do not require a down payment, but are available exclusively to service members, veterans, and surviving spouses. Although no mortgage insurance is required for these loans, there is a financing fee of 1.25 percent to 3.3 percent of the loan, depending on whether you make a down payment (and how big it is, if that is the case) and whether these It’s the first time you get a VA loan. This finance fee does not have to be paid, in some circumstances.
The benefits of mortgage insurance
While mortgage insurance primarily benefits the lender, it also serves a purpose for the borrower because it allows you to take out a mortgage with limited savings for the down payment. Lowering that 20 percent can be challenging, especially with home values soaring. By paying for mortgage insurance, you can still get a loan without requiring a large down payment (assuming you qualify based on other eligibility criteria).
Disadvantages of mortgage insurance
The downside of mortgage insurance: It’s an additional expense that you wouldn’t have to pay otherwise, and it can be difficult to get out of if you have an FHA loan.
Frequently asked questions about mortgage insurance
If you have a conventional loan or an FHA loan and are taking less than 20 percent off the home price, you will be required to pay mortgage insurance. If you have a VA or USDA loan, you’ll also pay a fee (although there are exceptions for some VA loan borrowers).
How do you get rid of mortgage insurance?
You can get rid of mortgage insurance in several ways, including paying off the loan, refinancing, or requesting cancellation when you reach 20 percent of the equity in your home. Keep in mind: If you have an FHA loan and put down less than 10 percent, you can’t get rid of the insurance unless you refinance into a different type of loan.
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