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What is PMI and how to get rid of it
Real estate lenders are a funny lot. It seems they're
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.
In recent 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 in case a borrower defaults on the
loan, and the value of the house is lower than the loan
balance.
PMI has been a large money-maker for the mortgage
lenders. The amount of the insurance - often $40-$50 per
month for a $100,000 house - is commonly rolled into the
mortgage payment. Given the size of the overall payment,
this additional fee is often overlooked. Homeowners
continue to pay the PMI even after their 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.
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
and though the lender is under no obligation to do so,
most will.
Of course, there is another way that home owner's equity
can reach beyond the 80/20 percent ratio. 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. Again, in these
cases, the lenders are under no legal obligation to
remove the PMI. In most cases, however, as long as the
home owner has been prompt on their loan payments and
don't represent an exceptional risk, the lenders will
agree to remove the extra fees.
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 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
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