Back to basics: What is mortgage insurance and how does it work?by Michele Lerner
Mortgage insurance, also known as private mortgage insurance or PMI, protects your mortgage lender in the case you default on your home loan. If you stop paying your mortgage and your lender is forced to take back the title on your property, mortgage insurance will reduce or even eliminate the risk of loss to the lender.
Mortgage insurance is paid by you, the borrower, in one of several ways, such as a monthly payment, an upfront premium or by paying a higher-than-market interest rate on the loan.
Mortgage lenders require PMI on any mortgage loan made with a down payment of less than 20 percent. If you plan to refinance and have less than 20 percent equity in your home, you will also be required to pay mortgage insurance.
Mortgage insurance and FHA loans
If your mortgage is a government-insured FHA loan, you’re also required to pay mortgage insurance. FHA borrowers must pay a monthly mortgage insurance premium as part of their mortgage payment, along with an upfront mortgage insurance payment that can be wrapped into your loan balance.
Benefits of mortgage insurance for borrowers
While many homebuyers prefer to avoid paying mortgage insurance because it adds to their housing costs, the shared risk of loss for the lender allows them to approve loans with lower down payments. First-time homebuyers often have difficulty saving enough money for a 20-percent down payment.
For example, 20 percent down on a $200,000 home would be $40,000. But if you have a conventional mortgage with PMI, you can make a down payment on that home of $20,000 or sometimes even as little as $10,000.
Is mortgage insurance tax deductible?
There’s good news and bad news in terms of your mortgage insurance deductibility, explains Keith Gumbinger, vice president of HSH.com. “The good news is that you could deduct the mortgage insurance you paid in tax year 2011. The bad news is that the deduction expired at the turn of 2012.”
If you are paying mortgage insurance, this should be reported to you annually by your lender on Form 1098, the same form that is used to provide a statement of the mortgage interest paid during the previous year.
Depending on how you pay your mortgage insurance premiums, you may be able to stop making those payments as you build equity in your home.