The Housing Scene
By Lew Sichelman
The new law requiring cancellation of private mortgage insurance that takes effect July 29 (next Thursday) should be considered nothing more than a fail safe mechanism.
With decent appreciation, borrowers who are required to pay for: mortgage insurance because they are putting up less than 20 percent of the purchase out of their own pockets should be able to drop coverage well before the law kicks in.
Under the Homeowners Protection Act, which was passed by Congress last year, lenders must cancel PMI at the borrower s written request their loan is paid down to 80 percent of the original value of the house. You must be up-to-date on your mortgage payments and have no other loans on the house, and the lender must be satisfied the propertys value has not declined. But otherwise, coverage must be dropped.
Even if you forget to ask, though, the law requires that coverage must be terminated when your loan balance reaches 78 percent of your home s value when you bought it.
Again, you have to be up-to-date on your payments. But even if you aren t current, coverage must be dropped when you do catch up. And you don t have to lift a finger. Cancellation will be automatic.
Still, that won t occur until somewhere around the mid-point of your mortgage – say between the 12th and 15th years on a 30-year loan, depending on how much you borrower and at what rate. And under new rules adopted by Fannie Mae and Freddie Mac, the secondary mortgage market giants, you should be able to do much better.
Fannie Mae and Freddie Mac keep mortgage money flowing by purchasing loans from local lenders. They don t buy every loan. But they are powerful enough that most lenders follow their edicts. And the two government-chartered corporations have ordered lenders to terminate PMI based on current value as opposed to original value.
Freddie Mac won t even require you to pay $250-$300 for an appraisal to determine what your home is worth. A simple real estate broker s price opinion, perhaps a $20-$30 expense, will suffice.
Better yet, whereas the new law applies only to loans closed on July 29 and after, both companies have extended their rules to include loans already on the books.
Furthermore, their new policies cover investment properties and second home, not just primary residences.
We believe homeowners should not have to pay for private mortgage insurance that is not necessary, including existing home owners, says Robert Engelstad, Fannie Mae s senior vice president for credit policy.
Because Fannie and Freddie have revised their rules, the new PMI cancellation law should be considered nothing more than a backstop for forgetful or lazy home owners.
The law takes some of the crap-shot element out of it, but that s not a reason to leave everything on auto-pilot, says Brian Smith of America s Community Bankers, a trade association of savings institutions. Borrowers should always be proactive, agrees Vicki Vidal of the Mortgage Bankers Association. Call your lender to find out what the rules are.
Nevertheless, the new consumer-friendly cancellation law does go a long way towards explaining PMI and demystifying the termination process. And it should help in reminding you that you have coverage and that it can be dropped.
Initially, lenders are now required to disclose your mortgage insurance options and explain the differences in cost for each choice. For example, there are several different ways to pay the freight, including as a single-premium financed as part of the loan amount or monthly as part of your regular house payment.
There s also a choice between borrower-paid and lender-paid coverage. If you opt to pay the premium, you can drop coverage later. If the lender pays the premium, you won t be able to cancel. But the cost will be somewhat lower. And it will be quoted as part of your mortgage rate, so the fee will be tax deductible. If you pay the premiums yourself, the cost is not considered interest and is not a write-off.
In addition, the law not only requires lenders to give you written notification at closing that you have mortgage insurance and that you have the right to cancel at a certain point, it also compels them to send you annual reminders that you have the right to terminate coverage once you meet the cancellation requirements.
But again, you shouldn t wait for lenders to discontinue coverage on your behalf. Rather, you should take the yearly notices as your que to start looking into what your house is now worth.
Here s why:
Say you paid $100,000 for your place and took out a 30-year, fixed-payment mortgage. According to calculations provided by United Guaranty Insurance Co., one of seven or eight firms which sell private mortgage insurance, if you put just 5 percent down and the house is appreciating in value at an annual rate of, say, 4 percent, you would build up enough equity to meet Fannie Mae and Freddie Mac s new rules after just 42 months.
There s a great big difference between 42 months and 180 months, the mid-point on a 30- year loan. If you re paying $62 a month for insurance, which is the rate United Guaranty charges on a 7 percent mortgage, the savings would be a whopping $4,956.
Four percent appreciation is about normal in many parts of the country.
But if you are living in a place where housing is hot and appreciation is running at, say, 10 percent, the savings are even greater. Even with a 95 percent loan on a $100,000 house, you would reach the cancellation point in just 21 months, and you d save $6,258 by dropping PMI as early as possible.
If you put 10 percent down, you d reach the termination point sooner yet-- just 29 months at 4 percent appreciation and 15 months at 10 percent. And if you put 15 percent down, the cutoff point would be as early as 16 months when values are increasing at 4 percent annually and 8 months when appreciating is running at 10 percent.
Incidently, the new law does not apply to mortgages insured by the Federal Housing Administration. FHA insurance is not cancelable and premiums must be paid for 13 years.
But under new rules that are now set to take effect Sept. 2 instead of July 2 as originally planned, lenders will have to disclose to borrowers how the cost of FHA insurance compares to private coverage. Generally, FHA s coverage is more expensive.
SIDEBAR: For a number of reasons, private mortgage insurance has gotten a black-eye over the years. But not all of it is deserved.
Yes, it adds to the cost of home ownership. And yes, borrowers pay to protect lenders, not themselves.
Also agreed, many lenders have made it difficult to drop coverage, which meant that borrowers were paying for insurance that was no longer necessary. And sure, every once in a while, a lender is caught canceling coverage without telling borrowers and pocketing the premiums under the guise of self-insurance.
Despite all that, though, because of the protection PMI provides, lenders are willing to make low-downpayment mortgages that would otherwise be considered too risky. Indeed, it has been proven that the less cash a borrower has in the transaction, the more likely he is to default.
Perhaps as many as one million buyers a year need PMI to obtain a mortgage. Without it, they d have to wait until they accumulated enough money for a 20 percent down payment. For some, that would be an impossible task.