Nobody likes to pay PMI. That much we know. Private Mortgage Insurance is the notorious add-on payment whose goal is to protect the lender against the borrower’s default. The amount of the monthly payment can range from one half of the percent of the amount of the loan to one and one half divided by 12 months. All lenders require MI if the amount of the downpayment on the house is less than 20% of the purchase price. The MI payment is not tax-deductible and doesn’t protect the borrower or the borrower’s property, it only protects the lender. There are at least two solutions to this problem...

Higher interest rate on the loan

Many lenders offer the option that allows the borrower to avoid paying MI by accepting a higher interest rate on the loan. The difference can be from one half of a percent to one percent. By charging the higher interest rate, the lender can purchase the insurance on a wholesale market for much less then the borrower could buy in the retail market plus earn some profit on it. The advantage to the borrower is that there is no need for Mortgage Insurance and the higher interest rate payments are tax deductible. Disadvantage: You higher interest rate stays the same for the life of the loan even if the loan to value ratio drops below 80% unless you refinance the loan. With mortgage insurance, lenders are now required to review your MI requirements once your loan to value ratio drops below 78% and remove your MI payments while maintaining the same low interest rate on the loan. In addition, MI on loans sold by lenders to Fannie Mae and Freddie Mac must be canceled when the LTV reaches 80% of the current market value of the property, subject to some conditions

Piggyback loans

Piggyback loan is a combination of a first and a second loan on the same property. The first loan for 80% of the purchase price would normally have a regular low interest rate that the borrower would get based on his/her credit, income and assets. The second loan can be for the amount of anywhere from 5% to 20% of the purchase price, however, the interest rate on the loan is normally between 10 and 15% depending on the lender.

All these solutions, including the loan with MI, have advantage and disadvantages. My personal favorite is the piggyback loan: The total amount of principle and interest payments on the first and second loans is approximately the same as you would pay on a larger first loan in combination with the MI. However, piggyback loans offer a great advantage of affordability and tax deductions. My suggestion is to concentrate on paying off the second loan faster by making extra payments every month. Once you paid off your second, you can now apply the same discipline to the first loan and making extra payment towards the principle of the first loan. The other option in several years after you purchase the house, is to taking advantage of a market appreciation and refinance the house to wrap your first loan and the remaining second into one first loan. However, remember that once you do this, your property taxes will go up to reflect the new appraised value of the house.

These are just two simple solutions available to most borrowers. Of course, situations vary from one borrower to another, so please contact me with any questions regarding your particular situation. I have access to different lenders and programs to help you with most difficult or unusual situations.

Alex Lisnevsky