In general, private mortgage insurance is required any time a mortgage exceeds 80% of the value of the home, as determined by the lower of the appraised value or the purchase price. In most cases, in order to remove the coverage you will need to pay the mortgage down to certain pre-determined levels.
Private mortgage insurance companies are required by law to remove your coverage under two circumstances for conventional loans:
1. When your mortgage amortizes down to 80% of the original property value, which is defined as the lower of the purchase price or the original appraised value. You have to request this type of termination, and the insurer can require evidence that the value of the home hasn’t fallen below the original value. There cannot be a second mortgage or home equity line of credit (HELOC) on the home. You also cannot have more than one 30-day late payment in the most recent 12-month period, or one 60-day late payment within the most recent 24 months.
2. Automatic cancellation—mortgage insurers are required to cancel your insurance when the amount of the outstanding loan falls to 78% of the original value (77% for loans defined as “high risk”). The delinquency rules from the first provision don’t apply, but you do have to be current on your mortgage at the time of cancellation.
Given the fact that property values have fallen in most of the country over the past few years, most homeowners will have to rely on the second option, since the first requires evidence that the property value hasn’t dropped from the time of purchase.
If you have an FHA loan, mortgage insurance removal is more difficult. FHA lenders are not required to remove coverage until your loan has been outstanding for at least five years and the loan has been paid down to not more than 78% of the original property value.
Refinancing to a new loan is another option—or should I say “loans,” as in more than one. During the height of the last housing boom, buyers were getting around mortgage insurance by using first/second mortgage combinations. An 80% first mortgage, supplemented by a 15% second or HELOC, enabled a buyer to buy a home with 5% down (or less), but no mortgage insurance.
The same arrangement can be worked out with a refinance. If you owe 90% of the home’s value on your first mortgage, you can refinance to a new 80% first mortgage and a new 10% second loan and drop the mortgage insurance.
This is an option you want to take only if the value of the property has at least held to about where it was when you bought the home, or in doing so you can also get a significantly lower interest rate. There are costs to taking this step—which will vary in each case—that have to be weighed against the benefit of removing the private mortgage insurance
Pay down your mortgage
Since property values have fallen in most areas, and second mortgages and HELOCs have gotten harder to obtain, you may need to eliminate your mortgage insurance the old fashioned way: by paying down the mortgage.
If you originally borrowed 95% of the property value to acquire your home, you will need to pay the loan down to 78%. If you’ve already paid the loan down substantially, this may not be a difficult task. But if you’re at, say, 90%, dropping the last 12% could be a real effort.
There are two ways to do this. If you’re close (if getting down to 78% is just a few thousand away), you can cover this with a one-time prepayment of the loan. If the amount required to lower the loan balance is substantial, or if you don’t have the cash to make the pay down, you can do it more gradually.
By increasing the monthly payment, you can accelerate the payments to accomplish the necessary pay-down over several years. Use a mortgage amortization calculator to determine how quickly you can pay the mortgage down using different pay levels.
Is eliminating your mortgage insurance worth the effort?
Absolutely! For one thing, mortgage insurance does nothing for you—its entire purpose is to protect your lender from you defaulting.
For another, the extra money you pay each month in your mortgage payment isn’t principal that reduces your mortgage balance—it’s just an extra expense. Like all expenses, the sooner it’s eliminated the better.