The Private Mortgage Insurance (PMI) industry emerged years ago, when mortgage industry research conclusively determined that residential mortgage loans containing a loan-to-value (LTV) of above 80%, were far likelier to default than would loans with LTVs of 80% or less. Without the implementation of PMI, mortgage lenders would have had no choice other than to cap all mortgage LTVs at 80%. This, of course, would have deprived a significant number of individuals from pursuing the American dream of homeownership. Because let’s face it. Not many people have 20% or more to put down when buying a home.
Private mortgage insurance is only and always affiliated with conventional residential mortgage loans. Just about every conventional mortgage with an LTV of above 80% requires PMI. PMI, however, does nothing for the borrower. It does not insure against default. It does not insure in the event that the borrower passes away prior to the loan’s fulfillment or loses his or her income source. In fact, PMI does nothing for the borrower aside from allowing him or her to have a conventional mortgage with an LTV that’s above 80%.
Private Mortgage Insurance’s purpose is to protect the lender’s exposure above the 80% LTV. Assume that a property’s purchase price and appraised value is $100,000 and a borrower secures a $90,000 conventional loan to finance it. Since the $90,000 loan constitutes 90% of the property’s $100,000 purchase price/appraised value, the LTV is 90% and PMI is required. The PMI does not, however, insure the entire $90,000 loan amount. It simply insures the $10,000 differential between the $80,000 at 80% LTV and the $90,000 at 90% LTV. And it doesn’t even insure the entire $10,000, rather only a percentage thereof. But it is required if the borrower wants to buy that home and has less than 20% to put down.
How Does A Borrower Get Rid of PMI?
I remember working as a mortgage customer service rep years ago, where I regularly encountered conventional mortgage loans, at relatively low LTV’s, containing PMI. Eventually I felt compelled to ask my manager why we were charging PMI on low-LTV loans. My manager’s reply was succinct. “Because we can.”
It wasn’t until 1998, with the enactment of the Homeowners Protection Act (HPA), the purpose of which being the facilitation of PMI removal, that practices changed. In accordance with the HPA, PMI may be removed in one of two ways:
- Through borrower petition; or
- Automatic removal
For a mortgage borrower to successfully petition his or her servicer for the removal of PMI, he or she must be able to demonstrate three conditions:
- A good payment history
- No subordinate liens
- An LTV of 80% or lower
Good Payment History
A good payment history is demonstrated through a review of the most-recent twenty-four months’ worth of payments received. That, right there, establishes that the loan must be two years old or older. During the most-recent twenty-four months, the borrower may have zero sixty-day-late payments. Additionally, and within the most-recent twelve months, the payment history must reflect zero thirty-day-late payments. Assuming that the borrower’s payment history reflects no 60’s within the past two years and no 30’s within the most recent year, the first condition has been satisfied.
No Subordinate Liens
A subordinate lien consists of a home equity loan, home equity line of credit, home improvement loan, government subsidy, or soft-second. To identify the presence or lack of any subordinate liens, the borrower will usually be asked to purchase a title search. Occasionally, however, the servicer will order it and cover its cost. If the title search reveals that the conventional mortgage containing PMI is the only lien secured by the subject property, the borrower may cross condition two off the list.
An LTV of 80% or Lower
The third condition that the borrower has to satisfy is demonstrating to his or her servicer that his or her loan’s LTV is equal to or less than 80%. The 80% LTV may be achieved through any or a combination of standard amortization, accelerated payments to principal, and the property’s appreciation.
In order to determine the LTV, the borrower will be required to purchase an appraisal. To maintain objectivity, the borrower will be prohibited from choosing the appraiser. Instead, he or she will have to contact his or her servicer, request a PMI-removal appraisal, and pay his or her servicer for the appraisal. In turn, the servicer will order an appraisal and send an appraiser out to the property to appraise it. Once the appraisal has been completed and returned for review, if, through that appraisal, the servicer concludes that the loan’s LTV is at or below 80% and the other two conditions have been met, PMI will be removed.
This process, however, is not without risk. I say that because, if the property happens to be located in a depreciating market, by going this route, the borrower could end up shooting him or herself in the foot. In other words, he or she could end up throwing away the money spent on the title search and appraisal.
So does this mean that, if a property happens to be located in a depreciating market, the borrower will be forced to endure PMI for longer than is otherwise tolerable? Not necessarily. In accordance with the Homeowners Protection Act, PMI may also be removed through automatic removal.
At any time when a conventional/conforming mortgage containing PMI reaches its amortization midpoint, the PMI must be automatically removed. No questions asked. The borrower need not say a thing. No appraisal, no title search. Nothing! The borrower doesn’t even have to know that it’s happening. The servicer is legally compelled to track for this.
Amortization midpoint represents the point at which the loan has amortized midway. Five years into a ten-year loan, seven-and-a-half years into a fifteen-year loan, ten years into a twenty, twelve-and-a-half through a twenty-five, and fifteen into a thirty. Once the loan reaches amortization midpoint, even if the loan’s LTV is above 80%, amortization midpoint overrules LTV and the servicer must automatically remove the PMI.
But what if the loan’s amortization midpoint is much further down the road? In that case, once a conventional/conforming mortgage loan reaches 80% LTV, the borrower has the right to petition his or her servicer for the PMI’s removal. If, however, he or she forgets to, neglects to, or simply chooses not to petition his or her servicer, once the loan’s LTV reaches 78%, based on the original loan amount, original appraised value, original purchase price, and original LTV, PMI must automatically be removed as long as the loan is current (not 30-days late or later). If, however, a conventional/conforming mortgage loan reaches a 78% LTV and it is not current, its PMI will remain until such time that the loan becomes current or its amortization midpoint has been reached, whichever occurs first.
If the mortgage loan, however, happens to be a high-risk (conventional/non-conforming) loan containing PMI, everything discussed about conventional/conforming loans still applies with two exceptions. In a high-risk scenario, amortization midpoint is no longer a consideration. Therefore, when the loan is a high-risk loan, the first opportunity for a borrower to remove their PMI occurs through borrower petition at 80% LTV. If, at 80% LTV, the borrower neglects to, forgets to, or chooses not to petition his or her servicer for PMI removal, once the loan’s LTV reaches 77%, PMI must automatically be removed as long as the loan is current. If a high-risk conventional mortgage reaches 77% LTV and it‘s not current, PMI will remain on this mortgage until the sooner of the loan becoming current or paying in full.
By knowing how PMI removal works, the mortgage loan originator is able to continue offering high-quality service while fostering a more complete understanding of the loan process. This, in turn, significantly helps the MLO meet and exceed his or her customer’s needs while positioning him or herself as the “go-to” mortgage expert.