Buying a home with a smaller down payment can make homeownership more achievable, but it can also introduce an additional monthly expense. For many conventional mortgage borrowers, that expense is private mortgage insurance, commonly known as PMI.
Although PMI can help buyers qualify for a mortgage without making a large down payment, homeowners may eventually want to eliminate the payment as their equity grows. Understanding how mortgage insurance works, how equity affects it, and what options may be available can help homeowners make better financial decisions.
If your mortgage payment includes PMI, you may not have to pay it forever. The key is knowing your loan terms, monitoring your equity, and communicating with your mortgage servicer when you believe you may qualify for cancellation.
What Is PMI Mortgage Insurance?
PMI mortgage insurance is insurance that generally protects the lender if a borrower defaults on a conventional mortgage. It is different from homeowners insurance, which protects the homeowner and property against covered risks.
PMI is commonly required when a borrower makes a relatively small down payment on a conventional home loan. Because the borrower initially has less equity in the property, the lender may view the loan as carrying greater risk.
Instead of requiring every buyer to put 20% down, PMI can allow eligible borrowers to purchase a home with a smaller initial investment.
The tradeoff is an additional insurance cost that is usually included in the monthly mortgage payment.
Why PMI Can Increase Your Housing Costs
A mortgage payment may already include principal, interest, property taxes, and homeowners insurance. PMI adds another expense on top of these costs.
The amount varies from borrower to borrower. Factors that can influence the premium may include:
- Loan amount
- Down payment percentage
- Loan-to-value ratio
- Credit history
- Loan characteristics
- Property type
- Lender requirements
Because PMI costs are specific to individual loans, homeowners should review their mortgage documents or contact their servicer for the exact terms that apply.
How Equity Affects PMI
Equity is an important concept when determining whether mortgage insurance may eventually be removed.
In basic terms, home equity represents the difference between the property's current value and the amount owed against it.
For example, if your home is worth $400,000 and your outstanding mortgage balance is $320,000, your approximate gross equity is $80,000 before accounting for other liens or obligations.
Equity can increase when you pay down the mortgage or when the property's market value rises.
As your loan-to-value ratio decreases, you may become eligible for certain PMI cancellation options, depending on your loan and applicable requirements.
How Paying Down Your Mortgage Can Help
Every principal payment reduces the amount you owe on the mortgage. Over time, this can increase your ownership stake in the property.
However, homeowners should remember that mortgage payments are not divided equally between principal and interest. During the earlier years of many amortizing loans, a larger portion of the payment may go toward interest.
This means equity from regular payments may build gradually.
Reviewing your mortgage statement periodically can help you track the outstanding principal and understand how your loan balance is changing.
Can Rising Home Values Help?
Property appreciation can also increase equity.
Suppose you purchased a home for $350,000 and its market value later increases to $425,000. If your mortgage balance has also declined, the difference between the home's value and your debt could be considerably larger than it was when you purchased the property.
However, homeowners should not assume that an increase in market value automatically cancels PMI.
Your specific mortgage terms and applicable cancellation requirements matter. Your mortgage servicer can explain whether a new valuation is acceptable and what documentation may be required.
When Should You Contact Your Mortgage Servicer?
If you believe you have built enough equity to qualify for PMI cancellation, contacting your mortgage servicer is an important step.
Before making the request, review your loan documents and determine whether you have reached the applicable threshold.
Your servicer may have specific requirements concerning:
- Payment history
- Current loan balance
- Property value
- Property type
- Requests for cancellation
- Possible appraisal or valuation requirements
Do not assume that PMI will disappear automatically simply because your home has appreciated.
When an Appraisal May Be Useful
A professional home appraisal can become valuable when current market value is relevant to determining equity.
An appraiser evaluates the property and analyzes factors such as:
- Location
- Size
- Condition
- Recent improvements
- Layout
- Comparable sales
- Local market conditions
The resulting valuation can provide a more detailed assessment than a general online home value estimate.
Whether an appraisal is required depends on the mortgage and the servicer's procedures. Homeowners should ask the servicer what type of valuation, if any, will be accepted before paying for an appraisal.
Should You Refinance to Remove PMI?
Refinancing is sometimes considered as a way to change the structure of a mortgage or potentially eliminate mortgage insurance. However, refinancing is not automatically the most economical option.
A new loan can involve:
- Closing costs
- Loan origination fees
- Appraisal expenses
- Changes in interest rate
- A different repayment period
For example, eliminating a $100 monthly PMI payment may sound attractive, but refinancing could involve thousands of dollars in upfront costs.
Homeowners should compare the total cost of refinancing with the potential savings rather than focusing only on the monthly payment.
Can Home Improvements Increase Equity?
Renovations may improve a property's condition and potentially increase its market value. However, the amount spent on an improvement does not necessarily equal the amount added to the home's value.
For instance, a homeowner could spend $30,000 on a remodeling project, but the market may not recognize the entire $30,000 as additional value.
Before completing major renovations specifically to eliminate PMI, consider the local housing market, expected return on investment, and the actual requirements of your mortgage.
Common PMI Mistakes to Avoid
Assuming PMI Is Permanent
PMI is not necessarily a lifetime expense on a conventional mortgage. Depending on the loan, borrowers may have opportunities for cancellation or automatic termination when applicable requirements are met.
Confusing PMI With Homeowners Insurance
These products serve different purposes. PMI generally protects the lender, while homeowners insurance provides coverage for certain property-related risks.
Using Tax Assessment as Proof of Market Value
A property tax assessment is created for taxation purposes and should not automatically be treated as the same thing as current market value.
Paying for an Appraisal Too Early
Before ordering an appraisal, ask your mortgage servicer whether one is required and whether there are specific valuation standards that must be followed.
Refinancing Without Calculating the Break-Even Point
If refinancing creates substantial upfront costs, determine how long it would take for the monthly savings to recover those expenses.
Simple Steps to Review Your PMI Situation
If you want to determine whether you may be able to reduce this expense, start with these steps:
1. Check Your Mortgage Statement
Identify your current loan balance and the amount being charged for PMI.
2. Review Your Loan Documents
Look for information about mortgage insurance cancellation and termination.
3. Estimate Your Current Equity
Compare your approximate mortgage balance with a reasonable estimate of your property's current value.
4. Contact Your Mortgage Servicer
Ask what requirements apply to your loan and whether you may request cancellation.
5. Determine Whether a Valuation Is Needed
If the servicer requires evidence of current property value, ask what type of valuation they accept.
6. Compare All Available Options
Consider PMI cancellation, additional principal payments, or refinancing only after understanding the costs and requirements associated with each choice.
Final Thoughts
PMI can make homeownership possible for buyers who cannot make a large down payment, but it can become frustrating when homeowners are unsure how long they will need to pay it.
Understanding PMI mortgage insurance, tracking your mortgage balance, monitoring changes in property value, and reviewing your loan documents can help you recognize when it may be appropriate to ask about cancellation.
If your home's value has increased or your mortgage balance has fallen significantly, contact your mortgage servicer to understand your options. When current market value is relevant, a professional property appraisal may also provide useful evidence.