What is Private Mortgage Insurance?
Private Mortgage Insurance is an insurance policy that when purchased insures the first 20% of the lenders loan amount. Lenders want to feel comfortable they have a reasonable chance to recover their loan amount even if the borrower defaults on the loan.
How Does PMI Actually Work?
For example, if a borrower purchased a home for $100,000 with a 5% down payment. The lender would have:
Appraisal of at least $100,000 on the property
$95,000 loan amount
$20,000 PMI insurance policy
If the borrower defaulted on the loan and the lender was forced to foreclose, the PMI policy pays the lender $20,000. The lender now has:
$95,000 loan amount $20,000 received from PMI policy
$75,000 exposure in the $100,000 property.
It's reasonable to think the lender can now sell the $100,000 property, pay all attorney fees, closing cost, etc. and recapture at least most of the lenders $75,000 investment. That's why conventional loan programs for down payments of less than 20% require you to purchase Private Mortgage Insurance or PMI.
How can I avoid paying PMI insurance?
To avoid paying PMI you'll have to provide the lender with a comfort level equal to the 20% margin of safety provided by PMI insurance. That can be done in a variety of ways:
80/20 new loan programs for the purchase of a new home
20% down payment for the purchase of a new home
Re appraisal of an pre-owned property to reflect an 80% loan to value ratio
Today lenders have more programs than ever to help you finance the purchase of a new home.
The better your credit score, the more options you will have.
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