Private mortgage insurance, or simply PMI, is admittedly a bit of head-scratcher. That’s because typically we associate insurance with paying to protect ourselves (our car, our health, our home, etc.) or, in the case of life insurance, our families. But with PMI, you’re pretty much paying to protect a stranger — your mortgage lender.
PMI is insurance you’ll have to pay if you’re putting less than 20 percent down on a home. Consider it collateral. That extra PMI money — which typically gets rolled into your monthly mortgage payment, along with principal and interest — ensures the lender recoups at least some of their money if you default on the loan, making them more willing to approve a mortgage with a low down payment. (Full explainer of PMI right here.)
Getting stuck with paying insurance for someone else doesn’t exactly feel fair, especially after saving, scrimping and sacrificing to afford your dream home. But believe it or not, PMI can actually be a good thing in some cases.
Yup. In fact, here are a few ways PMI can work in your favor.
No one should buy more house than they can afford, but having less than 20 percent in cash on hand for a down payment doesn’t necessarily put homeownership out of the question. In fact, in areas where rents are super-high, it can make more sense to buy a home. Your mortgage payment might be less than or equal to what you’re forking over to a landlord each month. Plus, hey, you’re building equity!
Enter PMI. While you shouldn’t use it to get a home that’s outside your financial reach, PMI can put you in a house you can otherwise afford despite being short a 20 percent down payment. Waiting a decade until you save a 20 percent down payment could mean missing opportunities to move into your ideal house today.
It’s easy to forget that pouring money into a sizable down payment can leave you with zero cash for anything else. Paying PMI — which amounts to a small percentage of your mortgage — allows you to put more money towards emergencies, like a surprise car repair or medical bill. It can also help you save for retirement over time—you can invest the extra money you don’t have tied up in a down payment and earn interest on it.
Under certain circumstances, PMI is tax-deductible. If your mortgage was taken out or refinanced any time on or after January 1, 2007 and your annual adjusted gross income (AGI) is below $100,000, you can deduct PMI on your income tax returns. Generally, the deduction is reduced 10 percent for each $1,000 your income exceeds the AGI cap.Big caveat here, though: 2017 may be the last year this tax break is offered, since the deduction has expired. Still, there’s a chance Congress may renew it.
PMI premiums are usually tacked onto your monthly mortgage payments. Some lenders, though, offer what’s known as lender-paid mortgage insurance or LPMI. Ignore the name, though, because LPMI doesn’t mean your lender is footing the bill. It simply means you can avoid a regular PMI payment in exchange for a slightly higher interest rate or an upfront lump sum payment at closing.
Why would you want to do either? Well, LPMI could result in a lower overall monthly payment than if you paid regular old PMI. Emphasis on could there, though, because, if you’re opting for a higher interest rate, you’ll need to do the math to see if your monthly payment would actually be more affordable. Plus, you’re stuck with LPMI over the life of your loan, so there’s a chance you’ll be paying more money for your house in the long run. By the way …
PMI won’t last for the life of your home loan. Unless otherwise stipulated in your mortgage contract, once you’ve built up 20 percent in home equity, monthly PMI payments are no longer necessary. In fact, your mortgage lender must automatically cancel your PMI once your equity reaches or surpasses 22 percent. So, your monthly mortgage payments, combined with equity and rising property values (depending on where you live) could move you closer to being rid of paying mortgage insurance.
Buying a home in 2017? We’ve got a breakdown of more things you’ll want to know right here.
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