- May 25, 2017
- Posted by: steve
- Categories: mortgage articles, private mortgage
You’re getting closer to buying that home. But which mortgage is right for you? In this post, we’re helping you decide if a private mortgage is your best bet.
Buying a home is a life-changing decision. It’s no wonder people start feeling nervous as they go through the process. There might be a few jitters here and there. Moreover, you end up learning new vocabulary, such as private mortgage, and you might find yourself asking, “What does this term even mean?”
More questions go through your mind. “Am I doing the right thing?” “Will I regret trying to buy a house?”
Nevertheless, you don’t need to feel stress or worry. Not everyone gets an opportunity to buy a home. This experience is a good thing, not a bad thing. You should be excited and try to enjoy every moment as you learn about home ownership.
What it all boils down to is that you have already made the decision to buy the house, now you just have to see it through. However, you will need to understand some of the terminologies the experts are using.
Some people use fancy terms that may confuse you. For instance, do you know what private mortgage insurance is and how it relates to you?
This is important.
What is a Private Mortgage?
In your journey to purchase a house, you have learned that a mortgage is a means through which a homebuyer can raise funds from a lender to purchase a real estate property, by offering the lender the property as collateral for the money raised. Have I lost you? Stick with me a bit longer.
Basically, it is a loan you get from a lender to purchase a house on condition that once you complete your payment, the lender will give you back the title deed to the property.
There is another type of mortgage called a reverse mortgage, whereby the homeowner borrows money from a lender using the home as collateral. Not important right now.
Mortgage loans can vary between fixed-rate and adjustable rate loans (ARMs), and government-insured or conventional loans.
With fixed-rate loans, you will pay equal premiums and fixed interest rates for the entirety of the mortgage. With ARMs, you will have to deal with changing interest rates during the life of the loan.
On the other hand, a private mortgage is a type of insurance policy obtained when you are unable to make a down payment of more than 19.99% of your potential new home’s purchase price. It is generally called Private Mortgage Insurance (PMI) and is provided by private insurance companies.
The PMI protects the lender in case you default on making payments on your mortgage.
When you provide less than 20% of the down payment on your home, the lender sees you as a high-risk investment. If they were to go through with loaning you the money to buy your home – without having mortgage insurance – and you stopped making payments, they would incur a great financial loss. That’s why PMI is important.
How Does PMI Work?
Several insurance companies in the US provide private mortgage insurance services. They include:
- MGIC (The Mortgage Guaranty Insurance Company)
- The Radian Group
- PMI Mortgage Insurance Company
- Genworth Mortgage Insurance
- CMG Mortgage Insurance Company
PMI is organized between the lender and one of the insurance companies. It is up to the lender to choose the insurance company and it is your responsibility to pay for the cover.
The insurance applies if you have taken a conventional loan. The lender will then provide you with several options on how you will pay for the insurance.
Conventional loans differ from government-insured loans in that they are not backed or insured by a federal agency. Government-insured loans include:
- the FHA mortgage loan (Federal Housing Administration), which is backed by the Department of Housing and Urban Development (HUD),
- the VA mortgage loan, which is backed by the U.S. Department of Veterans Affairs
- USDA loan, which is backed by The U.S Department of Agriculture (USDA)
According to the Homeowners Protection Act of 1998, the PMI is terminated when you reach 22% of the value of your home. You can also request your lender to cancel the insurance premiums if you have been consistent with your mortgage payments and you have reached 20% of the value of your home.
Types of PMI
These three types of PMI determine the payment choices available to you:
- Borrower-Paid PMI – You can pay a monthly premium until it is terminated or canceled when you meet the financial obligations. This is how it’s mostly done and it will be added to your mortgage payments.
- Single Premium PMI – You can pay as an upfront one-time lump sum payment. This premium will be paid at closing.
- Lender-Paid PMI – The lender will pay your insurance premiums to the private mortgage insurance company. The PMI, therefore, becomes a permanent part of your mortgage loan. Your will pay more interest in the duration of your loan.
A couple of factors will influence the PMI rates you are going to pay. They include:
- How much down payment you gave the lender.
If you paid a lot of money, then your PMI will be lower.
- Unstable property market values.
If your new home is in an area that is likely to experience depreciating property values, then you are going to pay a higher PMI.
- Intended use of the purchased property.
The PMI rates will vary depending on if you are going to use the house as a home, as a rental, or as a resale property.
- The status of your credit score
If you have a high credit score, then you are likely to pay a lower PMI rate. You can keep your credit score looking good by clear your credit card balances, pay your bills on time, and maintain good accounts of your debt repayment history.
Is a Private Mortgage Insurance Right for You?
Thus far, we have defined private mortgage insurance, discussed the various types of mortgage loans available, focused on how PMI works, the payment choices available to you, and the factors influencing the PMI rates you are going to pay.
Now we have to figure out, is a private mortgage insurance the right option for you in your quest for home ownership?
The answer to that question is Yes and No.
According to the Home Buying Institute, the number one fear that homebuyers have is that they will have a mortgage payment that is too big for them. If you also don’t pay the required 20% of the purchase price for the home, the lender will have to obtain the PMI. This will add more costs to the finances you set aside to buy a house.
Therefore, even though private mortgage insurance allows the lender to have enough confidence to loan you money to get your dream house, you will have to decide how comfortable you are in paying more. The PMI is there to protect the lender, not you.
Depending on your circumstances, you might feel that paying extra is not an issue. However, the ‘extra’ amount is not as little as you think. It can cost you thousands of dollars more than you expect.
It’s for this reason that potential homeowners seek alternatives to private mortgage insurance. One such alternative is through taking a second mortgage.
First, take a mortgage on 80% of the home. Then take another one on the remaining equity, and include the money you already have for the down payment. While this move might eliminate being on the hook for PMI payments, you will still have to pay extra interest rates on the second mortgage.
More Alternatives to Avoid PMI
There are other alternatives to paying the private mortgage insurance:
You can take out a new loan once the value of your home appreciates. However, you will need to get your calculations correctly to determine whether it will benefit you.
- Bank Mortgage Programs
Some banks try various programs to boost their success. For instance, Bank of America, one of the leading lenders in the U.S, offered a no-fee mortgage program in 2007 to cut the out-of-pocket costs that homebuyers’ experience. This program eliminated the need for PMI.
In 2016, the bank partnered with Self-Help Ventures Fund and Freddie Mac on the Affordable Loan Solution mortgage program. This program allows for a 3% down payment and you don’t have to worry about paying PMI.
- VA mortgage loans
If you are a veteran, you can take advantage of the VA mortgage loan. It allows you to get a mortgage with a 0% down payment and no PMI.
Save Your Money and Avoid PMI
As you have seen so far, private mortgage insurance is only in place to benefit the lender. While it may help you get a house quicker than you expected, the extra expense alone is not worth it.
PMI is not part of your home’s equity. That means you will be paying for something that doesn’t benefit you in the long run.
The only way to make the best decision is to find a reliable mortgage advisor. They will help you clear through the clutter and the information overload from the middlemen standing between you and your new home.
No matter what is going on in your life, never rush into any real estate deals. Take your time, work with mortgage experts, and find the right solution. This is an important decision that will affect your future.