What Is a PMI in a Home Loan?
Private mortgage insurance (PMI) is an additional monthly fee required by most lenders when your down payment on a home is less than 20 percent.
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Function
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PMI was created after mortgage lenders asked insurance companies to create a product that protected them should a borrower default on their loan. If a borrower did not have a 20 percent down payment for a home, insurance would be put in place to cover this gap.
Results
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Lenders determined the burden of this insurance would fall on the borrower given the insurance was a result of the borrower's risk profile. The cost of this insurance was then added to the borrower's monthly payment as private mortgage insurance.
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Considerations
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The PMI is based on the risk to the lender and the amount of the borrower's down payment. PMI charges typically amount to about one-half of 1 percent of the loan, according to the Mortgage Bankers Association of America.
Alternatives
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Some lenders will waive the PMI if the buyer agrees to a higher interest rate on the mortgage loan.
Removal
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Over time a house can gain value and when equity builds to 20% of the mortgage loan, borrowers can request removal of the PMI.
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