In today's market, the old rules of thumb about private mortgage insurance have changed dramatically. In the past, there was no getting around the fact that without a 20% down payment, a borrower would be required to obtain mortgage insurance to protect the lender. Today, there are two ways to bypass these requirements and eliminate mortgage insurance. Mortgage insurance is a credit guarantee for lenders that allows low down payment loans. Before mortgage insurance existed, borrowers had to make a minimum down payment of 20% of the purchase price on a home or they simply could not buy a house. Mortgage insurance requirements now allow down payments as low as 0% of the purchase price of a home. The negative to mortgage insurance requirements is that the borrower has to pay for the insurance coverage even though it is the lender that is being protected. Mortgage insurance charges vary depending on the percent of down payment and the total loan amount. On a $150,000 loan with 10% down, for example, a borrower would be required to pay approximately $70 per month for mortgage insurance on top of the normal mortgage payment. Moreover, this payment is not tax deductible. In an effort to offer borrowers a better option when putting less than 20% down, many lenders have introduced two alternatives that eliminate the need for mortgage insurance. Under the first scenario, a mortgage insurance requirement is waived in exchange for a higher interest rate on the mortgage loan. The interest rate increase ranges from 3/4% to 1%, depending on the down payment. The higher rate without mortgage insurance does work out to be a few dollars less per month than the regular rate with mortgage insurance. In addition, the interest on the higher rate is also tax deductible, while the mortgage insurance payment is not. The second option provides a much greater savings over the long term. Instead of increasing the rate on the entire loan to eliminate mortgage insurance, lenders have added the feature of splitting one first mortgage for up to 90% of the value of a home into two loans. This program is referred to as the "80-10-10" loan. Take the example of a borrower buying a home for $250,000 with a down payment of $25,000, or 10%. Normally, the borrower would get one first mortgage loan for $225,000 that would require mortgage insurance of $85 per month in addition to the mortgage payment. Under the 80-10-10 option, the borrower would instead get one first mortgage loan for $200,000 (80% of the purchase price) and one second mortgage loan for $25,000 (10% of the purchase price). Because the first mortgage is reduced to 80% of the purchase price, mortgage insurance is not required. As with all special programs, there is a catch. For the 80-10-10, the one catch is that the second mortgage loan rate will be significantly higher than the first mortgage rate. However, since the higher rate (now between 8% and 12%) only applies to the 10% second mortgage, the total of both payments still ends up less than one mortgage with mortgage insurance. For example, at a 7.5% first mortgage rate, the borrower in the above example would pay $1,658 to take out one loan with mortgage insurance but only $1,608.64 per month under the 80-10-10 option. The 80-10-10 program is even more attractive because of additional tax savings. In addition to purchase loans,
borrowers can also use the 80-10-10 program to refinance and
totally eliminate of mortgage insurance. One restriction on the
program is the requirement that the second mortgage portion of
the loan must be at least 10% of the total value of the house.
Otherwise, 80-10-10 adds up to savings for home loan borrowers. Michael Licamele is the Editor of MortgageAlmanac.com and President of Residential Finance Network at rfnc.com. |
Home