profile picture

What is PMI and how to get rid of it

Real estate lenders are generally happy to lend anybody money. Assuming a half-way decent credit rating, any potential home buyer can secure a loan for a house. Why? Because these transactions are secured by a very valuable asset: the home itself. If a borrower defaults on a loan, the risk for the lender is often only the difference between the value of the home and the amount outstanding on the loan, less the amount it costs them to foreclose and resell the property.

For this reason, lenders are very wary of lending more than a certain percentage of a home's value. Traditionally, this has been 80 percent. The cushion this provides the lender helps ensure that their losses from loan defaults are kept to a minimum.

For several years, however, it has become increasingly more common to see home buyers using down payments of 10, 5 or even 0 percent. Naturally, loaning this much presents the lenders with a lot more risk. To offset this risk, these transactions often require Private Mortgage Insurance or PMI. This supplemental policy protects the lender's interest in monies loaned above the 80 percent to value, in case a borrower defaults on the loan and the resale value and expenses of resale of the house does not satisfy the lender's monies loaned.

PMI approximates 1/4 of 1 percent of the loan and is commonly rolled into the mortgage payment. This additional fee is not dropped until the loan balance has dropped below the original 80 percent threshold. This occurs naturally, of course, as the home owner pays down the principal on the loan. On a typical 30-year loan, however, it can take many years to reach that point.  Lenders typically will drop the PMI payment sooner if loan payments have been on time, the loan has been in place long enough to meet the lender's requirements and an appraisal, from an approved appraiser for that lender, is completed and delivered to the lender showing that the current value of the house has increased enough to cover the difference between the 80 percent and 100 percent of the original loan. 

Until recently lenders were under no obligation to tell home owners when they had reached a point where the PMI can be dropped. That all changed in 1999, when the Homeowners Protection Act took effect. In most cases, this law now obligates lenders to terminate the PMI when the principal balance of the loan reaches 78 percent of the original loan amount. Savvy homeowners can get off the hook a little earlier. The law stipulates that, upon request of the home owner, the PMI must be dropped when the principal amount reaches only 80 percent!

It is important to note that this law only applies to home loans - whether first time or refinances - that closed after July, 1999. Also certain other conditions must be met, such as being current on the loan payments. Buyers that purchased before July 1999 can also have their PMI removed, but they must initiate the process typically with a current appraisal from an approved lender appraiser that satisfies the lender's requirements.

 Many areas of the United States have seen significant gains in the value of real estate over the past decade. In fact, certain areas have seen appreciation levels of 100 percent or more. Even those people living in areas with more modest gains may find that the value of their property has quickly grown to the point where the amount of principal they owe on their loan is less than 80 percent of the home's current value. 

The hardest thing for most home owners to know is just when does their home equity rise above this magical 20 percent point? A certified, licensed real estate appraiser can certainly help. It is an appraiser's job to know the market dynamics of their area. They know when property values have risen - or declined. Many appraisers offer specific services to help customers find the value of their homes and remove PMI payments. Faced with this data, the mortgage company will most often eliminate the PMI with little trouble. The savings from dropping the PMI usually pays for the appraisal in a matter of months. At which time, the home owner can enjoy the savings from that point on.

For more information on PMI and the Homeowners Protection Act, try one of these links:

Cancellation of Private Mortgage Insurance: Federal Law May Save You Hundreds of Dollars Each Year

Private Mortgage Insurance (PMI): Law Requires Lenders to Cancel PMI