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Private Mortgage Insurance | When is it Needed?

When You Will Need Private Mortgage Insurance.

Private mortgage insurance (PMI) provides coverage to the mortgage lender in the event of default. The private mortgage insurance premium is paid by the borrower.

Mortgage lenders generally require private mortgage insurance on all high loan-to-value ratio loans (typically, loans that exceed 80 percent of the property's value). When a lender has this type of coverage, a portion of the loan is guaranteed so that the lender carries no more risk on a high loan-to-value ratio loan than it does on a loan with a ratio of 80 percent or less.

Private mortgage insurance companies offer several programs for mortgage lenders, but the most popular plan reduces the lender's risk exposure to 75 percent of the property's value or loan principal. The higher your Loan to Value the higher the PMI insurance premium.

For each mortgage loan that is to be covered, the lender submits a packaged loan file with an application for mortgage loan insurance to the private mortgage insurance company. The loan file package includes the loan application, credit report, verifications of deposit and employment, and the appraisal report. The insurance company usually completes its processing quickly - often within 24 hours - and issues a commitment to insure. Typically, the mortgage insurance is added to the monthly payment for the mortgage. The cost of such insurance can be substantial and add over $100 per month to the mortgage payment.

However there are two recent major changes to PMI insurance that benefit the consumer. First, effective January 1, 2007, PMI insurance became deductible on income tax returns.

Homeowners Protection Act

Secondly, on July 29, 1998, The Homeowners Protection Act was passed which required automatic cancellation of private mortgage insurance by the lender when the loan to value ratio reaches 78%.

As another option, homeowners are now able to ask lenders to cancel PMI after their equity reaches 20 percent as long as they are current on their loan payments and their home has not depreciated below its purchase value. Lenders may require an appraisal for determining current value before agreeing to cancel the PMI. Lenders are also allowed to continue private mortgage insurance for a longer period of time for certain high-risk loans.

The legislation requires lenders to provide disclosures to borrowers about cancellation of private mortgage insurance. Lenders are required to give an initial disclosure to the borrower at the time of closing that indicates when private mortgage insurance could be canceled at the borrower's request and when it would be automatically canceled even if the borrower did not specifically request it.

Lenders must also provide an amortization schedule at loan closing for all fixed rate mortgage loans covered by PMI insurance.

Additionally the legislation requires that an annual disclosure be given to the borrower that would explain the borrower's right to cancel private mortgage insurance. This disclosure could be included with other annual disclosures, such as the escrow account disclosure or the report of interest paid.

If the insurance were canceled (either at the borrower's request or when automatically terminated by the lender), the lender would send a notice to the borrower. The lender would arrange for a refund of a portion of the insurance premium, if appropriate.

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