Buying a home is a dream come true for most people, but it’s a significant financial commitment. Not everyone can afford to pay for a house upfront, which is where a mortgage comes in. A mortgage is a loan from a bank or lender that helps you buy a home. However, when you take out a mortgage, you need to consider mortgage insurance. Mortgage insurance is a financial product that can help protect you, the homeowner, in case you’re unable to make your mortgage payments. In this article, we’ll explore what mortgage insurance is, why you need it, and the different types of mortgage insurance available.
What is Mortgage Insurance?
Mortgage insurance is a type of insurance that protects the lender in case you’re unable to make your mortgage payments. If you default on your mortgage, the lender can use the insurance to recover their losses. Mortgage insurance is a requirement if you have a down payment of less than 20%. In the event of default, mortgage insurance compensates the lender for the loss they suffered.
There are three types of mortgage insurance:
Type of Mortgage Insurance |
Requirement |
Protection |
|---|---|---|
Private Mortgage Insurance (PMI) |
Down payment less than 20% |
Protects the lender against loss due to foreclosure |
Federal Housing Administration (FHA) Mortgage Insurance |
Required for all FHA loans |
Protects the lender against loss due to foreclosure |
Veterans Affairs (VA) Mortgage Insurance |
Required for all VA loans |
Protects the lender against loss due to foreclosure |
Private Mortgage Insurance (PMI)
PMI is a type of mortgage insurance that’s required for conventional loans if you have a down payment of less than 20%. If you default on your mortgage, PMI compensates the lender for their losses. PMI is usually paid monthly, and the cost can vary depending on your credit score and the size of your down payment. The average cost of PMI is between 0.3% and 1.5% of the loan amount per year.
You can cancel PMI once you’ve paid off 20% of your home’s value. You can also request to have PMI removed if you’ve made significant home improvements or your home’s value has increased. However, if you have an FHA or VA loan, you can’t remove the insurance unless you refinance your loan.
Federal Housing Administration (FHA) Mortgage Insurance
The FHA is a government agency that provides mortgage insurance for FHA loans. FHA loans are popular because they have lower down payment requirements than conventional loans. However, if you have an FHA loan, you’re required to pay FHA mortgage insurance. FHA mortgage insurance consists of an upfront premium and an annual premium, which is paid monthly. The upfront premium is 1.75% of the loan amount, and the annual premium is between 0.45% and 1.05% of the loan amount.
Unlike PMI, FHA mortgage insurance is required for the life of the loan, regardless of how much equity you’ve built up in your home. If you have an FHA loan, you’ll need to refinance to a conventional loan to remove the mortgage insurance.
Veterans Affairs (VA) Mortgage Insurance
The VA is a government agency that provides mortgage insurance for VA loans. VA loans are available to veterans, active-duty military personnel, and their families. VA loans don’t require a down payment, but if you don’t have a down payment, you’ll need to pay a funding fee. The funding fee is a one-time fee that can be rolled into your mortgage. The fee ranges from 1.4% to 3.6% of the loan amount.
VA mortgage insurance is referred to as a funding fee, and it’s a one-time fee that’s paid upfront or rolled into your loan. The amount of the funding fee depends on several factors, such as your military service, the size of your down payment, and your loan type. If you have a VA loan, you won’t need to pay for mortgage insurance like with conventional loans, but you will need to pay the funding fee.
Why Do You Need Mortgage Insurance?
Mortgage insurance is required if you have a down payment of less than 20%. The reason for this is that if you have a lower down payment, you’re considered a riskier borrower. Lenders require mortgage insurance to protect themselves in case you default on your mortgage. Mortgage insurance provides the lender with a guarantee that they’ll be able to recover some or all of their losses if you’re unable to make your mortgage payments.
Mortgage insurance also allows you to buy a home with a lower down payment. If you’re unable to save up 20% for a down payment, mortgage insurance can help you purchase a home sooner. While mortgage insurance does add an extra cost to your mortgage payment, it can be worth it if it allows you to buy a home sooner and start building equity.
FAQ
What is a mortgage?
A mortgage is a loan that you take out to buy a home. The loan is secured by the property itself, which means that if you’re unable to make your mortgage payments, the lender can foreclose on your home.
How much does mortgage insurance cost?
The cost of mortgage insurance varies depending on the type of loan you have and the size of your down payment. For PMI, the cost is typically between 0.3% and 1.5% of the loan amount per year. FHA mortgage insurance consists of an upfront premium of 1.75% of the loan amount and an annual premium between 0.45% and 1.05% of the loan amount. VA mortgage insurance is referred to as a funding fee, and the amount depends on several factors, such as your military service, the size of your down payment, and your loan type.
How long do I need to pay mortgage insurance?
The length of time you need to pay mortgage insurance depends on the type of loan you have. PMI can be cancelled once you’ve paid off 20% of your home’s value. FHA mortgage insurance is required for the life of the loan. VA mortgage insurance is a one-time fee that’s paid upfront or rolled into your loan.
Can I remove mortgage insurance?
If you have a conventional loan with PMI, you can request to have it removed once you’ve paid off 20% of your home’s value or if you’ve made significant home improvements. If you have an FHA or VA loan, you’ll need to refinance to a conventional loan to remove the mortgage insurance.
Is mortgage insurance tax-deductible?
Yes, mortgage insurance is tax-deductible if you meet certain criteria. If your adjusted gross income is less than $109,000, you can deduct your mortgage insurance premiums from your taxes as long as you itemize your deductions.
What happens if I stop paying my mortgage?
If you stop paying your mortgage, you’ll go into default, and the lender can foreclose on your home. Foreclosure is a legal process in which the lender takes possession of your home and sells it to recover the money you owe on your mortgage. If you have mortgage insurance, the lender can file a claim to recover some or all of their losses.
Conclusion
Mortgage insurance is a necessary part of the homebuying process if you have a down payment of less than 20%. It protects the lender in case you default on your mortgage and provides you with an opportunity to buy a home with a lower down payment. While mortgage insurance does add an extra cost to your mortgage payment, it can be worth it if it allows you to buy a home sooner and start building equity. By understanding the different types of mortgage insurance available, you can make an informed decision about which option is best for you.