How To Avoid Private Mortgage Insurance (PMI)

Whether you're a first-time homebuyer or looking to refinance, there are proven strategies to avoid PMI and keep more money in your pocket each month.

What Is Private Mortgage Insurance (PMI)?

PMI is an insurance premium homeowners must pay if they have less than 20% equity in their home. Alternatively, you must have a loan-to-value (LTV) ratio no greater than 80% (loan balance is no more than 80% of the home's value).

Once the homeowner has at least 20% equity in the house, they can request that PMI be canceled and stop making monthly payments.

When Is PMI Typically Required?

Lenders require PMI in three main scenarios.

1. When you're putting less than 20% down on a home purchase.
2. If you're refinancing with less than 20% equity in your property.
3. When your loan doesn't qualify for government backing through programs like FHA or VA loans.

How PMI Costs Are Calculated

Lenders typically calculate PMI using your loan-to-value ratio, credit score, debt-to-income ratio, and loan type. Once the PMI rate is determined, it's multiplied by the loan value, then divided by 12 to find the monthly premium.

Here's how PMI costs can vary based on your risk profile:

PMI Structure Options

There are four main ways PMI can be structured, each affecting your monthly payment differently:

1. Monthly PMI: The most common option, where you pay a separate monthly fee in addition to your mortgage.
2. Upfront PMI: Requires paying the entire cost as a one-time fee at closing.
3. Split-premium PMI: Involves paying part at closing and part monthly
4. Lender-paid PMI: This means the lender covers the PMI cost, but you pay a higher mortgage interest rate.

Ways to Avoid PMI When Buying a Home

Make a 20% Down Payment

The most straightforward way to avoid PMI is putting down at least 20% of the home's purchase price. While this requires more upfront cash, it eliminates the monthly PMI expense.

Strategies to Reach the 20% Threshold

Even if you don't have the full 20% saved, several strategies can help you reach this goal:

• Family gifts: Using gifts from family members is one option, as lenders often allow gifts to count toward your down payment.
• Lower-priced properties: Buying an inexpensive or fixer-upper home reduces the total down payment needed.
• Assistance programs: Local or employer down-payment assistance programs may offer forgivable loans to supplement your down payment.

Piggyback Loans: The 80-10-10 Strategy

A piggyback loan is a second mortgage taken out simultaneously with your primary mortgage, allowing you to meet the 80% loan-to-value ratio and avoid PMI.

With an 80-10-10 loan structure, you have a primary mortgage for 80% of the home's value, a second loan for 10%, and you pay the remaining 10% as a down payment.

For a $500,000 home, you would have a $400,000 primary mortgage covering 80% of the home's value, take out a second loan for $50,000, and cover the remaining $50,000 in cash as your down payment.

"Every payment goes toward principal and interest rather than insurance premiums that build zero equity," says Shaun Michael Lewis, CEO at Clearwater Properties.

"I've watched clients accelerate their equity building significantly using this approach," explains Lewis.

Advantages of piggyback loans

• No PMI payments: Eliminates PMI, saving hundreds of dollars per month.
• Lower monthly costs: Potentially lower combined monthly payments than a mortgage with PMI.
• Faster equity building: More of your money goes toward building equity since you're not paying insurance premiums.
• Access to expensive homes: Makes higher-priced properties more accessible by meeting the 80% LTV requirement.

Disadvantages of piggyback loans

• Higher interest rates: Second loans often carry higher interest rates due to increased lender risk.
• Dual payment management: Managing two separate monthly payments instead of one streamlined payment.
• Overleveraging risk: Risk of borrowing too much, which can lead to payment difficulties.
• Complex financing: More complex financing structure requiring careful management and understanding.

Lender-Paid PMI Options

With lender-paid PMI, your lender covers the PMI cost in exchange for a higher interest rate, typically increasing your rate by 0.25% to 0.50%. Unlike borrower-paid PMI, this higher rate continues even after you reach 20% equity.

When lender-paid PMI makes sense

This option can be advantageous if you plan to sell or refinance within 5-7 years, as you'll pay less upfront while avoiding monthly PMI. It's also beneficial if you want lower monthly payments initially to meet debt-to-income requirements for loan qualification.

In competitive markets, eliminating the PMI line item may help you qualify for a slightly more expensive home.

Avoiding PMI Through Special Loan Programs

Government-Backed Loan Programs

• VA loans: These loans don't require PMI even with 0% down payment. They're available to active-duty service members, veterans, some reserve members, and surviving spouses with a valid Certificate of Eligibility (COE).
• USDA loans: Available through the US Department of Agriculture for properties in eligible rural and suburban areas. These loans don't require PMI and are designed for buyers with low to moderate incomes.
• FHA loans: While Federal Housing Administration loans don't require traditional PMI, they do require a mortgage insurance premium (MIP), which serves a similar function but has different rules and costs.

First-Time Homebuyer Programs

Several programs can help increase your down payment and avoid PMI:

National programs:

• National Homebuyers Fund (NHF): Provides grants or forgivable loans up to 5% of your mortgage for down payment and closing costs, available to first-time and repeat buyers in all 50 states with income limits.

State-specific programs:

• CalHFA MyHome Assistance Program (California): Offers deferred-payment loans up to 3-3.5% of the purchase price for down payment and closing costs for first-time homebuyers.
• New Jersey Housing and Mortgage Finance Agency (NJHMFA): Provides up to $15,000 in forgivable, interest-free second mortgages for first-time buyers.
• Texas State Affordable Housing Corporation (TSAHC): Offers down payment assistance through forgivable or low-interest second loans, often combined with mortgage credit certificates.

Professional-Based Mortgage Programs

• Physician loans: Available to doctors, dentists, veterinarians, and sometimes residents and fellows. These programs allow 0-10% down payments without PMI requirements.
• Educator programs: Available to teachers, administrators, and sometimes support staff. Some local programs waive PMI requirements with less than 20% down.
• Healthcare professional loans: Available to RNs, LPNs, physician assistants, and other licensed healthcare professionals, allowing reduced or no PMI with 3-5% down payments.
• First responder programs: Available to firefighters, police officers, EMTs, and related professionals. Certain programs allow 0% down with no PMI requirements.

Proprietary Lender Programs

• Bank of America's Affordable Loan Solution: Allows down payments as low as 3% without traditional PMI by requiring enrollment in down payment assistance programs and homebuyer counseling.
• Navy Federal Credit Union's Homebuyer Choice Loan: Offers down payments as low as 3%, or 0% down depending on eligibility, without PMI requirements.
• CrossCountry Mortgage's Bye Bye PMI Program: Allows down payments as low as 15% without PMI requirements.

How Refinancing Can Help You Drop PMI

Requirements for PMI Removal Through Refinancing

"A lot of folks assume PMI drops off once you hit 20% equity, but that's not quite automatic," says Casey Gaddy, Senior Agent at Keller Williams Realty, Inc.

"Borrowers can request PMI removal at 80% loan-to-value, but lenders aren't required to remove it until you hit 78% loan-to-value, and your payments are current," explains Gaddy.

Key criteria for PMI removal:

• Sufficient equity: Your home equity should be at least 20% after refinancing, meaning your LTV should be 80% or less
• Good credit score: Lenders often require a credit score of 620-700+ to remove PMI
• Stable income and low debt-to-income ratio: Typically requiring DTI of less than 43%
• Strong payment history: At least 12 consecutive months of on-time payments

Steps to Remove PMI Through Refinancing

1. Check your home equity: Ensure your current LTV is 80% or lower based on your home's current value.
2. Review your finances: Ideally, your credit score should be 700+ and your DTI should be less than 43%.
3. Shop around for lenders: Compare offers from several lenders to find the best deal for a new mortgage without PMI.
4. Get a home appraisal: This provides evidence that you meet the 20% equity requirement.
5. Close and confirm PMI removal: Complete the new mortgage process and verify that PMI has been eliminated.

Home Value Appreciation Requirements

The amount of home value appreciation needed to remove PMI varies significantly based on your initial down payment:

Scenario 1 - 5% Down Payment:

• Original home price: $300,000
• Initial loan amount: $285,000 (95% LTV)
• Required home value to reach 80% LTV: $356,250
• Required appreciation: $56,250 (18.75% increase)

Scenario 2 - 10% Down Payment:

• Original home price: $350,000
• Initial loan amount: $315,000 (90% LTV)
• Required home value to reach 80% LTV: $393,750
• Required appreciation: $43,750 (12.5% increase)

Scenario 3 - 15% Down Payment:

• Original home price: $400,000
• Initial loan amount: $340,000 (85% LTV)
• Required home value to reach 80% LTV: $425,000
• Required appreciation: $25,000 (6.25% increase)

Strategies to Build Equity Faster

• Accelerated payment strategies: Making extra principal-only payments significantly accelerates equity building. Making biweekly payments instead of monthly results in 13 full payments per year instead of 12, reducing your loan balance faster.
• Refinancing considerations: Refinancing to a shorter loan term charges less interest overall, allowing you to build equity more quickly. However, avoid taking home equity loans or lines of credit, as these reduce your equity and delay PMI removal.
• Value-adding improvements: Home improvements that increase your property's value will also increase your equity, potentially helping you reach the 20% threshold sooner.

Pros and Cons of Avoiding PMI

Financial Benefits of Avoiding PMI

For a $300,000 mortgage with a 0.5% PMI rate, you would save $125 per month by avoiding PMI. Over five years, this represents $7,500 in total savings, plus approximately $8,000-$9,000 in additional equity built during that period.

Long-term advantages of avoiding PMI:

• Lower monthly payments: Eliminating PMI reduces your monthly housing expenses.
• Faster equity building: Money that would go to PMI can be applied to principal payments.
• Improved debt-to-income ratio: Lower monthly payments may help you qualify for larger homes or other loans.
• No insurance premiums with zero equity building: PMI provides no benefit to the homeowner.

When Paying PMI Might Be Advantageous

• Market timing considerations: Waiting to save 20% could take years, during which home prices and interest rates may rise, potentially costing more than PMI payments.
• Strong credit benefits: If you have excellent credit, PMI rates could be as low as 0.2-0.4% annually, making it a relatively affordable option compared to higher interest rates from PMI avoidance strategies.
• Short-term ownership plans: If you plan to sell or refinance within 3-5 years, you may not pay PMI long enough to justify paying more upfront to avoid it.

Risks of PMI Avoidance Strategies

• Higher interest rates with lender-paid PMI: The increased mortgage rate is permanent, continuing even after reaching 20% equity.
• Additional debt obligations: Piggyback loans create extra monthly payments and increased financial complexity.
• Depleted cash reserves: Using all available cash for a large down payment can leave you vulnerable to unexpected expenses.
• Market dependency: Relying on home appreciation to remove PMI can backfire if property values decline.

Conclusion

Avoiding private mortgage insurance can save you thousands of dollars over the life of your loan, but the right strategy depends on your financial situation, homeownership timeline, and risk tolerance.

Whether you choose a traditional 20% down payment, explore special loan programs, or use creative financing like piggyback loans, the key is understanding all your options before making this important financial decision.

Frequently Asked Questions

1. Can I remove PMI without refinancing?

Yes, you can request PMI removal once you reach 20% equity, or it's automatically removed at 22% equity. However, you'll need to pay for an appraisal to prove your home's current value.

2. Do all loan types require PMI?

No, government-backed loans like VA and USDA loans don't require PMI. FHA loans require mortgage insurance premiums (MIP) instead.

3. Is lender-paid PMI tax-deductible?

No, lender-paid PMI isn't separately deductible because it's built into your interest rate. Traditional PMI may be tax-deductible depending on your income level.