Most lenders require the potential home buyer to purchase a separate insurance policy on the loan they take out. This is known as Mortgage Insurance. Mortgage Insurance is designed to help lenders protect themselves in case the home buyer defaults on the loan. For the most part, lenders require mortgage insurance when the down payment is less than 20%.
There are different types of mortgage insurance available to potential home buyers, and is almost always paid for by the buyer. The home buyer can expect the cost of the insurance to range anywhere from $50- $200 a month. The most common type of insurance is known as a private mortgage insurance or PMI. This type of insurance is available and required on most conventional loans when the down payment is less than 20%. In addition, when a potential home buyer is applying for an FHA loan, mortgage insurance will be required as well. The only difference is that with an FHA home loan, the insurance will be attached to the monthly mortgage payment.
When acquiring Private Mortgage Insurance for a conventional loan, it usually costs about 1%-2% of the actual loan. The higher the loan amount the higher the PMI. For example, if the homeowner has a loan of $150,000 this could be broken down to $1,500 a year or $125 a month.
With an FHA loan, you will pay an upfront mortgage insurance premium (MIP) of 1.75%. There is also an annual premium of 0.70% to 1.30%. However, the difference with these two types of loans is with an FHA loan, the PMI will be attached to the mortgage payment and with the conventional loan, PMI is a separate monthly statement.
Back before the housing market crash, the PMI premium would drop off after five years of having the loan. These days, mortgage insurance is required for the life time of the loan. Here are a few ways the PMI can be removed. One way is by refinancing and putting 20% down on the home. Another way the PMI can drop off of the loan is when at least 20% equity is built up. If the homeowner wants to go about dropping off the PMI, they will have to contact a lender and get a current appraisal on the home. This can cost anywhere from $350 to $500.
It is important to think of mortgage insurance as a part of the home cost if the potential homeowner cannot afford to put 20% down on the home. Keep in mind the options of removing the policy when the time is right.