CONVENTIONAL Loans / FHA, VA & Conventional Related

4 ways to use PMI to beat FHA mortgage insurance with a Conventional Loan

September 20, 2014 at 9:26 pm By

 

When you put down less than 20% of the purchase price, Conventional loans (those backed by Fannie Mae or Freddie Mac) require Private Mortgage Insurance (PMI).

Before we look at ways to manage the PMI imposed on you, it’s important to know that (Conventional) PMI is a different animal to the Mortgage Insurance that comes with FHA loans. And as FHA Mortgage insurance premiums have steadily climbed over the last few years, PMI with a Conventional loan often offers a lower payment.

However, because Mortgage Professionals don’t always bother to discuss various PMI options with clients in depth, most homebuyers wind up with the only option they know. . . the  traditional “Borrower paid” annual PMI premium, chopped up into 12 monthly payments.

Sadly, this option is often the most expensive of a few different ways to structure your PMI.

Let’s compare the 4 major ways of how to structure PMI by looking at a sample single family home purchase price of $300,000 with 5% downpayment (95% loan to value, LTV) and 700 FICO.

Borrower Paid PMI (BPMI) – this is the most common version, whereby the monthly PMI is a separate component of your total mortgage payment.

Radian’s PMI calculator for the above parameters gives an annual PMI factor of 0.89, which translates into a monthly PMI component of $211.38/mo. Here’s a breakdown of the total (PITI) monthly payment using an imaginary 30 yr Fixed Interest (Note) Rate of 4.25%.

pmi-borrowerpaid

 

 

 

 

This type of PMI doesn’t go away until you can demonstrate to your Lender that your loan has reached 78% “Loan To Value” -Say you own the home for 7 years (a common statistic), then you’d have made $17,755 in PMI payments.

BPMI is best for those buyers who for one reason or another expect to be able to do away with the PMI quickly (for example by adding a Pool, enhancing value and refinancing into a no-PMI loan at 80% of Appraised value, or by aggressively paying down the Principal with extra payments so that the 78% LTV mark is reached quickly).

In a market where strong property appreciation is going on, Borrower Paid MI may make more sense since refinancing using a higher appraised value is more feasible.

Lender Paid MI

Lender Paid MI (LPMI) is private mortgage insurance essentially ‘purchased by the Lender’ in exchange for a bump in your (Note) Interest Rate or additional charge (Discount Points).

The end result of LPMI, just as with Single Premium PMI,  is that there is no monthly PMI component. But the Lender is compensated for this increase in risk.

The bump in Interest rate depends on a few different factors, but mostly on FICO score.  The Interest Rate can be kept the same however if the Buyer chooses to pay Discount Points instead (a recent example of the additional Discount Points cost associated with the parameters mentioned earlier = 3.29.)- Ouch. Yes that means the same Note Rate (4.25%) could be retained and no monthly PMI enforced, if the Buyer paid additional Discount Points of 3.29% of the loan amount.

Instead of paying additional Discount Points, most Buyers allow an increase in the (Note) Rate. That bump is usually about 0.5%  which would put the final rate in the example we’ve been using in the 4.75% 30yr fixed range (no Discount Points) for getting LPMI. Here’s a snapshot of how the payment looks:

pmi-lenderpaidMI

 

 

 

 

 

Although LPMI gives a (slightly) lower total mtg payment than BPMI as you can see, the downside is that the Buyer is stuck with the higher Note Rate for the life of the loan. In the BPMI scenario, when the loan reaches 78% of Value, the PMI could be carved away, but when the PMI is built into the loan’s interest rate, it stays until/unless the loan is refinanced.

One advantage of LPMI however is that it could possibly come with a slight tax advantage seeing PMI is not tax deductible but the Interest on a home loan presently is.

LPMI also makes more sense if you don’t plan to own the home for say longer than 3 yrs or so.

Single Premium PMI

As opposed to paying the PMI on a monthly basis (BPMI)  or having it built into the Note Rate (LPMI), it can also be paid upfront as a lump sum in cash (Single Premium PMI). Essentially this a way the Buyer to pay a portion of the future MI premium once and for all, and get it out of the way at a discounted rate. The Radian calculator gives an approx. lump sum amount of $9918 (which is 3.48% of the loan amount) for the purchase scenario we’ve used above.

This may appear to be a hefty amount to drop down, but realize that just 47 months into homeownership, you’d be “ahead” in comparison to making a $211.38/mo. PMI payment.

If you owned the home for 7 years, that’s a savings of $17,755 – $9918 equals $7837.

Because the monthly payment is lower when you pay the PMI as a lump sum upfront, your qualifying debt to income ratio is also lower, meaning you can afford a higher purchase price. Below is a snapshot of the total monthly  payment using the same parameters as earlier:

pmi-singlepremium

 

 

 

 

 

If you plan to sell or refinance within a couple or 3 years, this is not a smart way to structure your PMI.

It’s worth noting here that if the Seller has agreed to make a contribution towards your closing costs, it can be used towards the upfront Single Premium.

The Single Premium PMI can also be financed into the 95% Conventional Loan so that the end result is no out of pocket cash payment made upfront and no annual (i.e monthly) PMI payment.

Split Premium PMI

Split Premium PMI is a hybrid of the typical BPMI and Single Premium MI. in other words, just as with FHA loans where there’s an upfront Mortgage Insurance and an annual amount paid in monthly installments,  Split Premium PMI allows the Buyer to pay a lump sum up front and a discounted/lower annual premium via monthly payments included in the total mortgage payment.

Using the same scenario above ($300k purchase price, 5% downpayment, 700 FICO score etc), Radian’s MI calculator gives us the following estimate

Upfront PMI = 1.75% of loan amount ($4987.50) and annual PMI $121.13/mo

Let’s see how this translates into a total mortgage payment:

pmi-splitpremium

 

 

 

 

 

Once again remember, the $4987.50 can be paid by the Seller. The Split Premium offers a way to get in on the (lower) discounted method of paying your PMI dues . . . without “breaking the bank” with such a hefty upfront outlay of cash.

We’ve seen that although PMI is a necessary evil when you’re borrowing more than 80% of the purchase price, there are creative and often hidden ways of structuring it so as to maximize your buying power and minimize your payment. Click Here for Fannie Mae’s PMI Comparison Matrix

 

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