So, you have decided to buy a home and started checking into a mortgage. One of the options provided is an FHA loan with minimal down payment and it can even be a gift. The rate looks good and it is a fixed rate too. The lender has even included the property taxes and homeowner’s insurance into part of the payment called escrows. That sounds good too! Plus, the seller can pay my closing costs? Man, this is sounding great! But, hold on! My payment has FHA PMI? Here come the questions…
- What is PMI and why am I paying it?
- Do I really need PMI?
- How can I get rid of FHA PMI?
These questions are pretty popular and especially with first time home buyers. Without an understanding of the purpose behind the fee and the benefit, it is easy to see why buyers may initially balk at this monthly fee. If a buyer is speaking to a lender about an FHA loan, all aspects including FHA mortgage insurance should be explained thoroughly. But, for those researching before application or those with loan officers that have not explained PMI, keep on reading.
What is FHA PMI?
PMI stands for private mortgage insurance. Mortgage insurance protects lenders against foreclosure losses. Basically, if the borrower stops paying and the house goes into foreclosure, the lender is protected. The first reaction may be that this is all about protecting the lender. But, keep in mind that this PMI allows the lender to provide low or no down payment loans. Otherwise, buyers would be required to put down 20% of the price. Sounds better now, doesn’t it?
Mortgage insurance comes in two forms: An Up-front fee or monthly payments. Rather than going through third-party companies for insurance, the government funds FHA mortgage insurance premiums. So, FHA mortgage insurance fees are deposited into a fund to insure the government from foreclosure losses. Additionally, FHA is fully funded by these fees and does not depend on the U.S. tax payer. Remember the financial bailouts? Well, the Federal Housing Administration has not taken one. Although, it did get dangerously low a few years ago. Thankfully, it currently meets the minimum required reserve.
Over the years, FHA PMI has fluctuated. These fluctuations occur as needed to cover the required reserve account as well as the safeguard against foreclosure risk. In the past, the FHA reserves dipped dangerously low which caused the funding fee and monthly PMI to increase dramatically. In 2015, both. fees were decreased to stimulate the economy and housing market.
FHA Funding Fee
Earlier, we mentioned there are two types of mortgage insurance. Well, FHA has both. The up-front form of PMI is called the FHA funding fee and its purpose is to fund this government program. All FHA loan types charge 1.75% of the base loan amount and it is financed on top of the loan amount. That includes FHA 203b (regular FHA loans), HUD $100 down purchase, the FHA 203k renovation loan, and FHA loans with down payment assistance. Here is a simple example to explain how it works:
Base loan amount $100,000 x 1.75% funding fee = $1,750. Total loan amount of $101,750 is figured by adding $100,000 to the $1,750 funding fee
Sometimes, we are asked if the borrower may pay the FHA funding fee rather than finance it. The answer is yes, IF paid in full. Thus, a borrower must pay it in full or finance it in full. Occasionally, there are leftover seller paid closing costs which could go towards paying the funding fee too.
FHA Monthly Mortgage Insurance Premium
Of the two mortgage insurance premiums, borrowers typically question the part that more affects the monthly payment. That is the monthly FHA PMI which lenders call FHA MIP. Either way, it is a cost included in the mortgage payment. So, how do lenders come up with the monthly amount? By referencing the charts below, the appropriate mortgage insurance percentage is figured. For instance, if using a 30 year term with only 3.5% down payment on a loan less than $625,500, the mortgage insurance rate is .85. Here is how the monthly amount for the first year is calculated:
Total loan amount (use example above) $101,750 x .85% = $864.88 divided by 12 months = $72.07 Monthly FHA PMI
Notice that the last line said, “for the first year”. That’s right. The mortgage insurance premium reduces each year. At each loan anniversary, the new monthly mortgage insurance is based on the new loan balance and the same FHA MIP percentage. Therefore, if the loan payments are made on time, the mortgage balance reduces, and the monthly PMI reduces.
30, 25, & 20 Year Terms
|FHA PMI for Terms Greater Than 15 Years|
|Base Loan Amount||Percentage of Price/Value||FHA PMI|
|< $625,500||< 95%||.80|
|< $625,500||> 95%||.85|
|> $625,500||< 95%||1.00|
|> $625,500||> 95%||1.05|
15 & 10 Year Terms
|Terms 15 Year or Less|
|Base Loan Amount||Percentage of Price/Value||FHA PMI|
|< $625,500||< 90%||.45|
|< $625,500||> 90%||.70|
|> $625,500||< 90%||.70|
|> $625,500||> 90%||.95|
FHA PMI Calculator
Do not be fooled by online payment calculators! Many only provide the principal & interest payment. Ignoring the PMI, property taxes, and insurance(s), could lead to major payment shock once the real payment is provided. If looking to run a few quick payment calculations which figures the correct funding fee and FHA PMI, click on the image below. By choosing a rate, down payment, taxes, and insurance, our FHA loan calculator will provide very accurate payment information. It also breaks down the principal & interest payment, monthly mortgage insurance, down payment, funding fee, and more.
FHA PMI Removal – How Do I Get Rid of FHA PMI?
Many have heard that at some point, PMI is eventually removed from mortgage loans. Although, most are thinking of conventional loan PMI rules that state the borrower may request PMI removal once the balance falls below 80% of the original value. I can’t tell you how often I have heard buyers, Realtors, attorneys, and even a few lenders state that FHA loans are treated the same way. And that is definitely not true!
FHA divides FHA PMI Removal into two distinct categories based on all FHA case file numbers issued on or after June 3, 2013. One allows for FHA PMI removal and the other does not. Previous rules of cancelling at 80%, after 5 years, or no PMI on 15 year terms are all old rules and do not apply to FHA loans after the above date.
Loans Greater than 90% LTV – Meaning less than 10% down payment
- FHA PMI must be collected through the end of the loan term, or 30 years, whichever occurs first
Loans Less than or equal to 90% LTV – Meaning 10% down payment or more
- FHA PMI will be collected through the end of the loan term, or 11 years, whichever occurs first
How to get rid of FHA PMI?
Based on the current rules for case numbers on or after June 3, 2013, a borrower cannot request that a lender remove FHA PMI. But, if the loan meets the 11 year cancellation, the lender must remove the mortgage insurance at that time. So, to answer this question “how to get rid of FHA PMI”, a borrower must have one of the following scenarios:
- Put down 10% or more on an FHA purchase – 11 years
- Borrow 90% or less on an FHA refinance – 11 years
- Refinance to a conventional loan under 80% – No PMI once closed on new loan
- Pay off the mortgage in full – stops when paid off
- Other potential options for FHA case files taken out prior to June 3, 2013 – Contact us or your current servicer to check
Although FHA is a wonderful way for buyers to purchase a home, manufactured home, townhome, or condo, there are other home loan options. Each loan type has advantages and disadvantages when compared with other loan types. Plus, a huge variable is the borrower’s scenario. Credit scores, down payment, property type, debt ratio, and more play a role in choosing a loan program.
USDA Loans Offer No Money Down & Cheaper Mortgage Insurance
That sounds too good to be true, doesn’t it? No money down and cheaper than FHA mortgage insurance? Yes, and cheaper funding fee too! Instead of FHA’s 1.75% funding fee, USDA charges only 1%. Also, the monthly mortgage insurance (USDA calls it an annual fee) is only .35% compared to FHA’s 30 year .80 – .85%. That is about 40% less than FHA! USDA only offers a 30 year fixed term and the monthly mortgage insurance continues for the life of the loan. Although, the monthly charge reduces based on the annual balance just like FHA. USDA does require a household income limit as well as meeting property eligibility.
VA Loans Offer No Money Down & No Monthly PMI
For current service members, Veterans, or surviving spouse, VA home loans are tough to beat. Combined with no money down, fixed interest rates, and no monthly PMI, it creates quite the affordable option for a buyer. Furthermore, VA is the only loan that offers the ability to waive the funding fee. Veterans who are considered 10% or more disabled by VA are not charged the VA funding fee. Otherwise, most VA funding fees are more expensive than FHA, but they are financed like FHA.
Conventional Loans Provide Low Down Payment and PMI Options
Today’s conventional loan is not just 20% down or monthly PMI. There are options for just 3% down payment which may even be a gift. Additionally, conventional loans offer several mortgage insurance choices for a borrower. These include traditional monthly, single premium PMI paid or financed up-front, split premium (similar to FHA), or Lender paid PMI. Depending on the buyer scenario, each has their own advantages. For borrowers with higher credit scores, conventional PMI is often cheaper than FHA PMI. Although, once a borrower is in the 600’s for a credit score, FHA usually wins out. One of the most popular conventional benefits nowadays deals with student loan debt. Both Fannie Mae and Freddie Mac offer very flexible qualification for borrowers with income based repayment student loans. They will use the payment reporting on the credit report. Fannie Mae will even allow an IBR payment of $0!
Finally, since we have discussed PMI removal, conventional loans are the most lenient in this area. Conventional loans do not require life of loan mortgage insurance. To learn more about cancelling conventional PMI, check out this article: When does PMI stop on FHA, USDA, and conventional loans?