Who Must Get Mortgage Insurance?
You must buy mortgage insurance if you buy a home and make a down payment of less than 20 percent. Additionally, you must buy mortgage insurance if you refinance your home and, as a result of the refinance, you have less than 20 percent equity in your home. Depending on the type of loan you use to finance your home, you may obtain insurance from a private insurer or from a government-backed entity.
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Mortgage Insurance
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When you default on a mortgage, your lender can foreclose on your home and sell your house to settle the mortgage debt. However, the foreclosure process involves substantial legal costs. To help ensure lenders can get back the money owed through a foreclosure sale, lenders typically limit mortgages to 80 percent of the property value. If you have less than 20 percent equity, you must buy mortgage insurance, and if you default on your loan, the insurer pays your lender a sum equal to up to 20 percent of the value of your home.
Private Mortgage Insurance
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Private mortgage insurers insure conventional loans, although even with mortgage insurance, you typically have to have at least 10 to 15 percent equity in your home. You must pay mortgage insurance premiums on a monthly basis. When you have built up at least 20 percent equity in your home, you no longer have to pay for mortgage insurance. You can make a request to cancel the insurance once you have sufficient equity in your home, but your lender must automatically cancel it once you have 22 percent equity in the property.
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Federal Housing Administration
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The Federal Housing Administration, a division of the United States Department of Housing and Urban Development, insures mortgages for first-time home buyers. You only need to make a down payment of 3.5 percent if you buy a home with an FHA-backed loan. The FHA also insures loans on manufactured homes, but you must make a down payment of at least 15 percent. The FHA offers refinance loans to people with existing FHA loans who want to refinance to a lower rate. FHA insurance premiums continue for the life of the loan regardless of equity buildup.
Veterans Administration Loans
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The Department of Veterans Affairs insures mortgages for active duty personnel, veterans, some reservists and members of the national guard, and the surviving spouses of some former military personnel. You do not have to make a down payment when you purchase a home with a VA-backed loan. The VA typically provides lenders with mortgage insurance up to 25 percent of the purchase price. The VA also insures refinance loans to people with little or no equity who are refinancing into a lower rate loan.
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References
- Federal Reserve Bank of San Francisco: Private Mortgage Insurance; 2010
- U.S. Department of Housing and Urban Development: 203(b) Mortgage Insurance; February 2010
- United States Department of Veterans Affairs: Overview of the VA Home Loan Program
- Federal Trade Commission: Cancellation of Private Mortgage Insurance: Federal Law May Save You Hundreds of Dollars Each Year; July 2000
