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When you buy a house, you may also be required to pay for mortgage insurance. This insurance provides added protection for lenders should you fall behind on your payments, and it may make it easier to qualify for a loan.
With conventional loans, you’ll need what’s called private mortgage insurance (PMI). With a Federal Housing Administration loan, on the other hand, it’s called an FHA Mortgage Insurance Premium (MIP).
In this Guide:
- What is FHA mortgage insurance?
- FHA MIP vs PMI
- How much does FHA mortgage insurance cost?
- FHA MIP removal
What is FHA mortgage insurance?
FHA mortgage insurance is called MIP, and it’s required on all FHA loans, a loan program for first-time homebuyers. It comes with both an upfront premium (paid at closing) and an annual cost, which you’ll pay with your mortgage payment each month for the life of the loan.
The purpose of MIP is to lessen the risk for the lender. If you fall behind on your loan payments, your mortgage insurance policy will step in cover some or all of the lender’s losses.
>> Read more: Best FHA Lenders: Get Help Buying Your First Home
Because FHA loans require MIP, home loan lenders are able to accept riskier borrowers (e.g. with lower credit scores, smaller down payments) This is one reason FHA loans have less stringent qualification requirements than other loan options.
FHA MIP vs. PMI
The main difference between MIP (on FHA loans) and PMI (on conventional loans) is that one is always required, and one is not. Though MIP costs vary, they’re always required if you take out an FHA mortgage.
On conventional loans, though, mortgage insurance is only sometimes required, typically based on the size of your down payment. Even then, it can be canceled once the borrower reaches an 80% loan-to-value ratio. Lenders are actually required by law to remove PMI once the LTV hits 78%.
MIP also comes with upfront and annual premiums, whereas PMI only has an annual premium (in both cases, paid monthly across the entire year). Let’s take a look at how the costs break down for the same home purchase with either PMI or MIP.
In this scenario, let’s assume the borrower purchased a $250,000 home, made a 10% down payment, and took out a 30-year loan. The FHA loan rate here is 4%.
|FHA MIP||Conventional PMI|
|Total loan amount||$225,000||$225,000|
|Upfront mortgage insurance costs||$3,937.50||$0|
|Annual mortgage insurance premiums||$1,800||$2,812.50|
|Total insurance costs||$23,737.50||$16,875|
(PMI rates vary greatly. We assumed a 1.25% rate in this scenario.)
How much does FHA mortgage insurance cost?
FHA mortgage insurance comes with both upfront and annual costs. Upfront, you’ll pay 1.75% of your total loan balance. Annually, you’ll pay a percentage based on your down payment.
Here’s what those charges look like on a 30-year loan:
|Original loan amount||Down payment||Annual MIP premium|
|$625,500 or less||5% or more||0.80%|
|Less than 5%||0.85%|
|More than $625,500||5% or more||1%|
|Less than 5%||1.05%|
If your mortgage has a 15-year term or shorter, your charges look like this:
|Original loan amount||Down payment||Annual MIP premium|
|$625,500 or less||10% or more||0.45%|
|Less than 10%||0.70%|
|More than $625,500||22% or more||0.45%|
|10 to 21%||0.70%|
|Less than 10%||0.95%|
FHA MIP removal
Prior to 2013, borrowers weren’t required to pay for MIP after hitting an LTV of 78%. That changed, though, and now there are only a few circumstances in which you can remove MIP from an FHA loan.
First, you have to have no more than a 90% loan-to-value ratio at the time of closing, meaning you’ll need to make a 10% down payment. Though you’ll still pay MIP, it will only be for the first 11 years of the loan. FHA borrowers who don’t make a 10% down payment aren’t able to cancel MIP at all.
Fortunately, there is another option. If you’re not eligible to cancel your MIP, you can refinance into a conventional mortgage loan instead. Learn more about this process below.
How to refinance an FHA loan
With a traditional mortgage refinance—not an FHA streamline refinance—you can replace your FHA loan with a conventional mortgage, removing MIP in the process. Keep in mind, though—conventional loans often require mortgage insurance if you make a down payment of less than 20%.
Because of this, you’ll generally want to wait until you have at least 20% equity in your home before you start researching mortgage refinance companies. This will ensure you have the funds necessary to make the full down payment and avoid PMI.
You should also know that conventional loans have stricter qualifying standards than FHA loans. Most of the best mortgage lenders require a credit score of at least 620, though it varies from lender to lender. Make sure your credit score is in a good place if refinancing is on your mind.
Saving on MIP isn’t the only way you’ll benefit from a refi. Refinancing may also lower your interest rate, lower your monthly payment, and help you pay off your home sooner. You can also use a refinance to tap your home equity and fund renovations, tuition, medical bills, and other expenses.
>> Read more: Mortgage Refinance Calculator: How Much Could You Save?
Want to avoid FHA mortgage insurance? There are ways
The bottom line is that MIP doesn’t have to last forever. If you’re able to make at least a 10% down payment, you may be eligible to remove your MIP down the line. If not, refinancing into a conventional loan in the future could be an option if your credit score is strong.
Need to improve your score first? Pay down your debts, check your credit report for errors, and lower the amount of credit you’re utilizing, and your score should bounce back as a result.
Author: Aly Yale