For any Conventional mortgage with less than 20% down, mortgage insurance is required. Mortgage insurance is a form of insurance that protects the lender in the case of a default on the mortgage. The actual cost of the mortgage insurance and how it can be paid by the borrower, depends on several factors. Credit score, loan type and down payment amount are the three major factors that determine the cost of mortgage insurance.
Types of mortgage insurance:
- Monthly mortgage insurance – This is the most common form of mortgage insurance. The monthly premium is included in the total monthly mortgage payment.
Strategy: Mortgage insurance paid on a monthly basis can eventually be cancelled. The time period that it takes to have the mortgage insurance cancelled is dependent on the amount of equity that you have at the time of your purchase. If you put 5% down on your home at the time of purchase, it will take much longer for the monthly mortgage insurance to be in a position to be cancelled, however if you initially put 15% down, your mortgage insurance would have the possibility of being cancelled much quicker. In some cases, you might actually be able to qualify for a lower mortgage rate by putting less than 20% down and taking monthly mortgage insurance. With the correct down payment strategy, you could potentially put less down, get a lower rate and have your monthly mortgage insurance cancelled in just a few months. There are several other individual factors that can impact the strategy advise that we give our clients. During our client consultation, we will identity all of the possible options to help the client figure out the best overall strategy. See here for more information regarding cancelling mortgage insurance.
- Lender paid mortgage insurance – This form of mortgage insurance is paid for by the lender by offering a slightly higher mortgage rate to the borrower to offset the upfront cost to the lender. This form of mortgage insurance does not have a monthly premium, however with a higher mortgage rate, the principal and interest portion of the mortgage payment is increased.
Strategy: This type of mortgage insurance can be beneficial if the overall payment ends up being less expensive than the monthly mortgage insurance option. If the borrowers’ adjusted gross income is too high to deduct mortgage insurance at tax time, lender paid mortgage insurance could be a better option. It would increase the interest paid annually, but the mortgage interest is typically tax deductible, unless the customer takes a standard deduction.
The income level of the customer, the of time that the monthly mortgage insurance would be paid before it is cancelled, and the length of time that the borrower anticipates living in the home are all factors that play into the strategy when comparing monthly mortgage insurance and lender paid mortgage insurance. We look at all aspects when helping customers determine the best option.
- Upfront single premium mortgage insurance – This type of mortgage insurance is a one time upfront premium paid at settlement. This premium eliminates the monthly mortgage insurance, however the upfront cost can be very expensive, so determining the break-even point for this cost is important.
Strategy: This type of mortgage insurance can be very expensive, so it is not always recommended unless the break even point on the upfront cost is very short. If you are able to break even on the upfront cost and start benefiting from the lack of mortgage insurance within your first year, this option could work well, however if the break even point is several years out, this may not be the wisest choice. Additionally, this option would increase the total closing costs, so it may not work for everyone’s budget.
- Financed mortgage insurance – This includes financing the upfront premium into your first mortgage. This could impact your rate, as your overall loan balance and loan-to-value is affected.
Strategy: This form of mortgage insurance is less popular, but it can be beneficial is some instances if the costs make sense when compared with the more popular mortgage insurance options. If the mortgage rate is not greatly impacted by higher loan amount and possibly higher loan-to-value, this option may work well. In some cases, this option may only be eligible with a slightly larger down payment. Ex: instead of 5% down, it could require 6-7% down in some cases to allow for the premium to not increase the overall maximum loan-to-value allowed by the loan program.
- Split premium mortgage insurance – This form or mortgage insurance includes both an upfront financed mortgage insurance premium and a monthly premium, both at a slightly reduced rate.
Strategy: This form of mortgage insurance is also less prevalent and will have some of the same limiting factors as financed mortgage insurance and monthly mortgage insurance. A side by side comparison with the other options helps for us to show borrowers the pros and cons.
There are several factors that play into the strategy of choosing the best mortgage insurance option to suit your needs. If you are interested in a detailed comparative analysis of all of your mortgage insurance options or if you have questions, feel free to contact us at CJMT@mainstreethl.com or call us at (240) 670-5090
***We are not tax advisers. Be sure to speak with your CPA before determining your own tax implications with different forms of mortgage insurance***
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