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When Can I Cancel My Mortgage Insurance if I Have an FHA Loan?


mortgage-insurance-fha-loanFor quick reference, mortgage insurance is an insurance policy that is paid by the borrower, naming the lender as the beneficiary should you, the borrower, ever default on your home. Mortgage insurance offers a layer of protection to the lender, guaranteeing they will be paid in full in the event the borrower cannot continue to make mortgage payments, and is determined by down payment size and loan amount.

Recently, the United States Department of Housing and Development (HUD) announced several upcoming changes to the annual Mortgage Insurance Premium (MIP) requirements for FHA loans. Mortgage insurance can be a confusing topic already, and muddying up the waters are yet another round of guidelines.

Please note: this article is intended to be an overview of the implications of the new changes; you should consult a mortgage loan officer for more information.

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The biggest change with mortgage insurance and FHA loans is that if your loan-to-value (LTV) ratio is more than 90%, then mortgage insurance is present for the term of the loan. Previously, mortgage insurance was eligible to be removed (by the borrower) from your mortgage portfolio after you built 20% of equity in the home. At 78% loan-to-value, the financial institution was forced to remove it. That rule is no longer. So what does that actually mean for you as a borrower?

Guidelines

Real-Life Example

Scenario Loan Term LTV %* Mortgage Insurance stays for: Purchase Price $ Down Payment/$ Loan Amount LTV %*
1 ≤ 15 years ≤ 78% 11 years $100,000 $22,000/$78,000 78%
2 ≤ 15 years 78.01–90% 11 years $100,000 $20,000/$80,000 80%
3 < 15 years > 90% Loan Term $100,000 $8,000/$92,000 92%
4 ≤ 15 years > 78% 11 years $100,000 $22,000/$78,000 78%
5 > 15 years 78.01–90% 11 years $100,000 $20,000/$80,000 80%
6 > 15 years > 90% Loan Term $100,000 $8,000/$92,000 92%
*Loan-to-value (LTV) ratio is calculated as the ratio of a loan to the value of the home purchased.

Confused much? Don’t be. Let’s break this down into understandable numbers:

To set the stage, we’ll assume the home selling price to be $100,000 as a consistent sales price to keep numbers and percentages to a well-rounded, even number.

Scenario 1: On a home with a purchase price of $100,000 with a 15-year loan, you put $22,000 down. This puts your LTV at 78% and means that mortgage insurance will stay around for 11 years.

Scenario 2: On a home with a purchase price of $100,000 with a 15-year loan, you put $20,000 down. This puts your LTV at 80% and means that mortgage insurance will stay around for 11 years.

Scenario 3: On a home with a purchase price of $100,000 with a 15-year loan, you put only $8,000 down. This puts your LTV at 92% and means that mortgage insurance will stay around for the life of the loan.

Scenario 4: On a home with a purchase price of $100,000 with a 30-year loan, you put $22,000 down. This puts your LTV at 78% and means that mortgage insurance will stay around for 11 years.

Scenario 5: On a home with a purchase price of $100,000 with a 30-year loan, you put $20,000 down. This puts your LTV at 80% and means that mortgage insurance will stay around for 11 years.

Scenario 6: On a home with a purchase price of $100,000 with a 30-year loan, you put only $8,000 down. This puts your LTV at 92% and means that mortgage insurance will stay around for the life of the loan.

A common misconception people have is that with an FHA loan, mortgage insurance never goes away. Remember, the mortgage insurance won’t go away if your initial LTV is above 90%, and since FHA loan guidelines allow borrowers to get “into” a home for a smaller down payment (3.5% of the purchase price), naturally, that means a larger number of borrowers will fall into that >90% LTV category. Since most borrowers fall in that category, the never-go-away mortgage insurance will apply to that rather large group. Because that group tends to have the majority of FHA borrowers in it, that’s the reason for the over encompassing definition.

While it may seem frightening to consider that FHA mortgage insurance won’t go away for the life of the loan (when your LTV is more than 90%), don’t let that influence you too significantly. While that is true, even in the previous FHA/mortgage insurance environment, it took the average borrower approximately 11 years to build enough equity in the home to be able to cancel their mortgage insurance. Research shows that the average homebuyer occupies their home for 5-7 years, a time period well shy of the average 11 years it would've taken you to build enough equity for a mortgage insurance cancellation, anyway.

The bottom line is that every situation differs, and before you’re scared off by the fact that mortgage insurance on FHA loans may be around for as long as you have a mortgage payment, talk to a mortgage loan officer to determine how much weight you should put on the new guideline. You may be surprised to learn that it doesn't play much more of a role in your scenario than it did a few years ago.

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