For many home buyers, one of the most confusing aspects of the mortgage process is understanding all of the acronyms and initialism associated with it. In this blog post, we’re going to decode two of the most common ones: PMI and PITI. Keep reading to learn more about what they stand for and how they factor into your monthly mortgage payment.
What is PMI?
PMI stands for private mortgage insurance. It’s insurance that protects your lender in the event that you default on your loan. If you have a conventional loan and your down payment is less than 20% of the home’s purchase price, you’ll likely be required by your lender to pay PMI.
The cost of PMI varies based on a number of factors, including your credit score, loan type, and down payment amount. However, you can typically expect it to add an extra 0.5% – 1% of your total loan amount to your monthly mortgage payment.
For example, if you’re taking out a $250,000 loan with a 10% down payment (meaning you’ll owe $225,000 after your down payment), and your PMI rate is 0.5%, you can expect to pay an additional $112.50 per month in PMI premiums.
You’ll continue paying PMI until you’ve built up at least 20% equity in your home—meaning you own at least 20% of it outright—at which point you can ask your lender to cancel it.
How Does PMI Work?
If you default on your loan and go into foreclosure, the lender will sell your home to recoup their losses. In most cases, the sale price won’t cover the entire loan balance. The difference between the loan balance and the sale price is called the deficiency balance. The lender can sue you for this deficiency balance, but if you have PMI, the insurer will pay it for you up to the limit of your policy.
Does PMI Protect You From Foreclosure?
No, PMI does not protect you from foreclosure. If you stop making your mortgage payments, your lender can still foreclose on your home even if you have PMI. However, if your home sells for less than what you owe on your mortgage and there’s a deficiency balance, having PMI means that you won’t be held responsible for paying it.
Does PMI Protect You at all?
No, not really. PMI is there to protect lender in case of default, it doesn’t do anything for borrowers. Additionally, any money you paid toward PMI is not refundable. In other words, if you stop making payments on your loan and go into foreclosure, you won’t be reimbursed for any of the money you’ve paid toward PMI.
So if you are asking how does PMI protect YOU – it doesn’t. It protects your lender in case you quit making your payments for any reason.
Do You Still Need Home Owner’s Insurance If You Have PMI?
Even if you have PMI, you should still purchase homeowners insurance to protect your home and personal belongings.
PMI does not cover your personal belongings or any damage to your home. For example, if your home is damaged in a fire, flood, or other natural disaster, your lender will not be responsible for repairs. You will need to file a claim with your homeowners insurance policy to cover the cost of repairs.
In addition, PMI does not cover liability claims against you. If someone is injured on your property and sues you, your homeowners insurance policy will cover legal expenses and any damages that are awarded. Your PMI policy will not pay for any of this.
What Does PMI Cost?
Typically PMI premiums are paid monthly along with your mortgage payment. It usually ranges anywhere from 0.5% to 1% of your loan balance per year depending on various factors including your credit score and the loan to value ratio of your mortgage.
While these premiums can certainly add up over time, it’s often much lower than what you would pay if you put down 20% upfront. And it certainly makes buying the home easier if you don’t have 20% saved for a down payment.
Why Do You Want PMI?
You are probably thinking, why do I even want PMI? Why should I have to pay for PMI when it does me no good. Many people think that way. But, here’s the thing, back before PMI was introduced in the 1950’s, a borrower had to put down at least 20% toward their home purchase. Some banks actually required more like 30-50% down. PMI was introduced as a way to help borrowers be able to afford the dream of home ownership without having to save for so long. Today, thanks to PMI, many homebuyers are able to purchase a home with very little downpayment, 3%-5% in most cases. So, without it, you may not be able to purchase a home at all. By understanding how PMI works and the cost associated with it, buyers can make better decisions about whether or not this type of insurance is right for them before signing on the dotted line.
How Do I Get Rid of PMI?
PMI is required if you owe more than 80% of your home’s value to your lender. But how do you get rid of it once you think your balance is lower than the 80% loan to value? Many people choose to refinance their loan. Check with your lender and see if the interest rates are lower than what your current mortgage rate is. If it is and it makes sense to refinance, then just do that. The new loan will include an updated appraisal and that will show the current loan to value. If it’s lower than 80%, you won’t be required to have PMI.
But what if the rates are higher now than what you purchased at? Then you can call your lender and find out what they require to get rid of the PMI. Typically, it involved you getting an updated appraisal from an appraiser the lender approves of and sending that appraisal in with a letter requesting that your PMI be dropped from the mortgage.
Another way to get the PMI removed is to simply wait until your lender determines that your equity in your home as reached at least 22%. Then they will automatically drop it. But do check with them before assuming this is the case, some lenders require that you request the removal in writing first.
Why You Need Homeowners Insurance Even With PMI?
While PMI offers some protections for the lender, it should not be mistaken for nor does it replace homeowners insurance. You still need a homeowners insurance policy to protect your home, your belongings and yourself against accident claims by others who may come to your home. In addition, most lenders require that you have a homeowners insurance policy in place before they will approve your loan. It is unlikely that a lender will lend you money on something you don’t insure will be safe. Should a fire break out, they want to make sure their investment is still solid.
What is PITI?
PITI stands for principal, interest, taxes, and insurance. These are the four components that make up a typical monthly mortgage payment. The principal is the amount of money you borrowed from your lender to buy your home; the interest is the fee charged for borrowing that money; taxes are local property taxes due on the property; and insurance includes both homeowner’s insurance (to protect against damage or theft) and it also refers to any required private mortgage insurance (PMI).
For example, let’s say you’re taking out a $250,000 loan with a 4% interest rate and 30-year term (meaning it will take you 30 years to pay off the entire loan). On top of that, let’s say your annual property taxes are $2,500 and your annual homeowner’s insurance premium is $1,000. Your total monthly PITI would be $1,228.67. $937 of that is your principal and interest and the rest is the taxes and insurance.
So be sure when you are thinking of what you can afford in your payment that you include the taxes and both the homeowners insurance and PMI in your calculations. The best way to figure out what your payments would be, what you can afford and what you actually qualify for is to speak with a mortgage professional. If you don’t have one, contact me and I’ll give you some recommendations of great professionals I have worked with in the past.