Private Mortgage Insurance (PMI)
Insurance required by lenders on conventional loans with less than 20% down payment, protecting the lender — not the borrower — against default.
What Is Private Mortgage Insurance (PMI)?
Private mortgage insurance (PMI) is insurance required by lenders on conventional mortgage loans where the borrower's down payment or equity is less than 20% of the property's value — meaning the loan-to-value ratio (LTV) exceeds 80%. PMI protects the lender, not the borrower, against financial loss if the borrower defaults on the loan and the property is sold for less than the outstanding balance. The cost of PMI typically ranges from 0.3% to 1.5% of the original loan amount per year, depending on the borrower's credit score, LTV, and loan type. PMI is usually paid as a monthly premium added to the mortgage payment, though it can also be paid as a single upfront premium at closing, a combination of upfront and monthly, or through a lender-paid PMI option (where the lender pays the premium but charges a slightly higher interest rate). Under the Homeowners Protection Act of 1998, borrowers have the right to request PMI cancellation once their equity reaches 20% of the original property value (LTV drops to 80%), and lenders are required to automatically terminate PMI when equity reaches 22% based on the original amortization schedule — even if the borrower does not request it. FHA loans use a different system called Mortgage Insurance Premium (MIP), which has different rules, costs, and cancellation policies.
Private Mortgage Insurance (PMI) Formulas
ƒ Key Formulas
Private Mortgage Insurance (PMI) in Practice
A buyer purchases a $400,000 home with 10% down ($40,000), financing $360,000 at 90% LTV. The lender requires PMI at 0.7% of the loan amount annually: $360,000 × 0.007 = $2,520/year, or $210/month added to the mortgage payment. After several years of payments and appreciation, the homeowner's equity reaches 20%. They request PMI cancellation, saving $210/month — $2,520/year — for the remaining life of the loan. If the owner does not request cancellation, the lender must automatically terminate PMI when equity reaches 22%.
Why Private Mortgage Insurance (PMI) Matters
PMI is a significant monthly cost that many first-time buyers do not anticipate. It can add $100–$400+ per month to a mortgage payment, directly affecting DTI and the buyer's ability to qualify. Understanding PMI helps agents advise buyers on the trade-off between a lower down payment (getting into a home sooner) and higher monthly costs (PMI plus interest on a larger loan). PMI is also a key reason financial advisors recommend saving for a 20% down payment when possible. On the exam, PMI questions are frequent because the concept connects LTV, down payment calculations, borrower rights under the Homeowners Protection Act, and the distinction between conventional PMI and FHA MIP.
Key Factors That Affect Private Mortgage Insurance (PMI)
- 1.Credit score significantly affects PMI cost. A borrower with a 760+ credit score may pay 0.3–0.5% annually, while a borrower with a 680 score on the same loan could pay 0.8–1.2%. Higher risk borrowers pay substantially more for PMI.
- 2.LTV directly determines whether PMI is required. Any conventional loan with LTV above 80% triggers PMI. The higher the LTV, the higher the PMI rate, because the lender's risk exposure increases.
- 3.PMI payment structure varies. Monthly premiums are most common, but borrowers can also choose single upfront premium (paid at closing), split premium (upfront + reduced monthly), or lender-paid PMI (LPMI, where the lender pays but charges a higher interest rate that cannot be removed later).
- 4.The Homeowners Protection Act (HPA) governs PMI cancellation rights. Borrower-requested cancellation at 80% LTV. Automatic termination at 78% LTV based on the original amortization schedule. Final termination at the midpoint of the loan term regardless of LTV.
- 5.Refinancing can eliminate PMI if the home has appreciated sufficiently to bring LTV below 80%. However, refinancing has its own costs (closing costs, restarting the amortization schedule) that must be weighed against PMI savings.
Common Mistakes With Private Mortgage Insurance (PMI)
- ✗Thinking PMI protects the borrower. PMI protects the lender against loss from borrower default. The borrower pays the premium, but the insurance policy pays the lender if the borrower defaults and the property sells for less than the loan balance.
- ✗Confusing PMI with FHA MIP. PMI applies to conventional loans and can be cancelled at 80% LTV. FHA MIP has different rates, requires an upfront premium at closing, and may last the entire loan term if the borrower puts down less than 10%. They are different insurance products with different rules.
- ✗Assuming PMI cancellation is automatic at 80% LTV. The borrower must REQUEST cancellation at 80% LTV and meet certain conditions (current on payments, no subordinate liens). Automatic termination by the lender occurs at 78% LTV — two percentage points lower.
- ✗Forgetting that lender-paid PMI cannot be cancelled. With LPMI, the lender absorbs the premium cost but charges a permanently higher interest rate. Unlike borrower-paid PMI, this higher rate cannot be removed when equity reaches 20% — the only escape is refinancing.
- ✗Not factoring PMI into DTI calculations. PMI is part of the total monthly housing payment and must be included in both front-end and back-end DTI ratios. Ignoring it can lead to qualification surprises.
Private Mortgage Insurance (PMI) vs. Related Metrics
LTV is the metric that triggers PMI. When LTV exceeds 80% on a conventional loan, PMI is required. As LTV decreases through amortization and appreciation, PMI can eventually be removed.
FHA MIP includes an upfront premium (1.75% of loan amount, financed into the loan) plus annual premiums (0.45–1.05%). Unlike conventional PMI, FHA MIP cannot be cancelled on loans with less than 10% down — it lasts the life of the loan.
PMI is included in the monthly housing payment when calculating DTI. A borrower with PMI has a higher effective payment, which raises their front-end and back-end DTI ratios.
How Private Mortgage Insurance (PMI) Appears on the Real Estate Exam
Common question types, tested concepts, and what to watch out for
PMI protects the LENDER, not the borrower — this is the most tested fact. PMI is required when LTV exceeds 80% on conventional loans. Borrowers can request cancellation at 80% LTV; automatic termination occurs at 78% LTV based on the original amortization schedule. FHA uses MIP (mortgage insurance premium) with different rules — FHA MIP may last the life of the loan if the down payment is less than 10%. The borrower pays for PMI, but the lender is the beneficiary.
Frequently Asked Questions About Private Mortgage Insurance (PMI)
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