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Private Mortgage Insurance (PMI)

Private Mortgage Insurance (PMI) protects lenders against loss due to foreclosure. Most lenders require PMI when the down payment is less than 20 percent. The PMI premiums are paid by the borrower and the policies are provided by private mortgage insurance companies. PMI is NOT mortgage life insurance. PMI protects the lender against loss. Mortgage life insurance protects your home and family by paying all or a portion of your mortgage in the event of your death.

Methods of paying for PMI have changed over the years. Prior to 1994, borrowers paid twelve to fifteen months' premiums at close of escrow. In 1994, borrowers could pay as few as two months' premiums at closing, and then pay a monthly premium with each mortgage payment. In 1998, a borrower could finance a single lump-sum mortgage insurance premium as part of the loan amount. In 1999, private mortgage insurance companies began borrowing Fannie Mae's new "Lowest-Cost MI" program. The new program allows borrowers to finance or pay up front a portion of premiums and, in return, receive a lower monthly premium rate. With each new strategy, home ownership has become more affordable for more people.

How much does PMI cost? The cost of PMI depends on the percentage of the down payment and the type of loan. Here are some sample PMI charges. These are guidelines only. Payment factors are subject to change. Please contact your lender or broker to get the cost of PMI on your loan.

LTV 30 year fixed 15 year fixed 30 year adjustable
95% 0.78% 0.72% 0.92%
90% 0.52% 0.46% 0.65%
85% 0.32% 0.26% 0.37%

Example: If you are getting a 30 year fixed loan, and are putting 10 percent down, the PMI premium is 0.52 percent. If your loan amount is $100,000, your PMI payment will be $100,000 x (.52/100)x 1/12 = $43.33 per month.

Avoiding PMI

The easiest way to avoid PMI is to make a cash down payment of 20% or more. Potential sources of additional cash include:

  • Borrowing against your 401(k) retirement plan
  • Taking a margin loan against your stock
  • Asking relatives for a gift
  • Refinancing your car and taking cash out
  • Selling your car, jewelry, etc.

In the event you are unable to make a 20% cash down payment, consider these options:

Piggy Back Loan: 
A piggy back loan usually allows you to avoid PMI even though you are making a down payment of less than 20 percent. The most common piggy back loan combinations are:

  • 80-10-10:  Eighty percent first loan, 10 percent second (piggy back) loan, 10 percent cash down payment.
  • 80-15-5:  Eighty percent first loan, 15 percent second loan, 5 percent cash down payment.
  • 80-20:  Eighty percent first loan, 20 percent second loan, no cash down payment.

Even though the second loan rate may be higher than the first loan rate, you usually come out ahead since you don't have to pay PMI. Also, the interest on the second mortgage will likely be fully tax-deductible.

Lender Paid PMI (LPMI):
In this case, the lender makes your PMI payment for you, but charges you a higher rate on the loan. Since the PMI payment is not tax deductible, and the higher rate results in a higher, tax-deductible interest payment, in the short-run you may save money by choosing LPMI over the conventional PMI option. The disadvantage is you're stuck with the higher interest rate for the life of the loan. If you had paid PMI, you could cancel it when you achieved 20% equity in your property.

Cancelling PMI

The Federal Government passed a private mortgage insurance (PMI) reform law, effective July 29, 1999. Known as the Homeowners Protection Act of 1997, the new law amends the Federal Truth in Lending Act and could save some homeowners more than $1,000 a year in PMI payments.

The key provision in the new law forces most lenders to automatically cancel PMI when a homeowner pays down their mortgage balance to at least 78 percent of the home's original purchase price. Homeowners also may apply to have the insurance removed when the mortgage balance drops to 80 percent of the original value. The appraised value may be determined by the original, or a new appraisal. Both provisions require that the borrower be current with their mortgage payments.

PMI reform not for all:

Only loans written July 29, 1999 or later are covered by the new law, and the small print in many other mortgages could preclude still more consumers from canceling PMI.

If you have questions about PMI cancellation policies, contact your mortgage company.

FHA and VA Loans

FHA

FHA's Title II, Section 203(b) mortgage insurance program is the most commonly used. The program allows a borrower to purchase a new or existing one- to four-family home in an urban or rural area. The program has been essential in helping low- and moderate-income families become homeowners for two reasons. First, the program lowers some of the costs associated with obtaining a mortgage. Second, because lenders are insured against default, they can take greater risks by lending in situations which fall outside of conventional standard underwriting guidelines. FHA charges mortgage insurance premiums for these loans. The premiums are used to pay lenders in the event of the borrower's default on the mortgage. The borrower pays an up-front mortgage insurance premium (MIP) and an annual premium. The up-front premium can be financed into the loan. The Mutual Mortgage Insurance Fund is sustained entirely by borrower premiums. Currently, the up-front MIP is 2.25 percent of the base loan amount, or 1.75 percent for a qualified first-time homebuyer. The monthly premium is 1/12 of 1/2 percent of the outstanding principal loan balance. Unlike Private Mortgage Insurance (PMI), which can be cancelled, FHA mortgage insurance lasts for the life of the loan. MIP is also generally more expensive than PMI. Any Unused MIP is refunded when the loan is paid off.

VA

The U.S. Department of Veterans Affairs guarantees loans made by institutional lenders to eligible veterans. The guarantee helps protect the lender in the event of the borrower's default. The VA charges a funding fee for each loan, which varies with the amount of the down payment and the status of the borrower (reservist/active duty/veteran). The funding fee may be included in the loan amount.

The funding fee for veterans is 2 percent for purchase or construction loans with down payments of less than 5 percent, refinancing loans and home improvement/repair loans.
The funding fee for veterans is 1.5 percent for purchase or construction loans with down payments of at least 5 percent but less than 10 percent

Homeowners Insurance

Homeowners insurance is required by the lender to obtain a mortgage. The typical homeowners policy has two main sections: Section I covers the property of the insured and Section II provides personal liability coverage to the insured. It's a good idea to insure your home for the total amount it would cost to rebuild it if it were destroyed. There are three ways to insure your home:

  1. Replacement Cost: Under this coverage, the policy owner is reimbursed an amount necessary to replace the structure with one of similar type and quality at current prices, subject to a maximum dollar amount.
  2. Guaranteed Replacement Cost: Under this coverage, the policy owner is reimbursed an amount necessary to replace the structure without a deduction for depreciation and without a dollar limit.
  3. Actual Cash Value: Under this coverage, the policy owner is entitled to the depreciated value of the damaged property.

To determine the cost to rebuild your home, consult with an appraiser or a local builder. Note: You only need to insure the structure. You do not need to insure the land.

In the event of a serious loss -- a fire, for example -- how would I fare?

In most cases you should insure your dwelling and its contents for their replacement values, which will likely differ from the dwelling's market value and your personal property's depreciated cash value. Also consider getting a policy with automatic inflation adjustments so that the replacement cost keeps pace with the general level of price increases.

Standard coverage insures your possessions at 50 percent of the value of your dwelling. Many people boost this coverage to 75 percent with additional protection. There are individual limits on certain types of personal property (see below).

Freestanding structures on your property (garages, gazebos, tool sheds, etc.) are also covered, with standard protection equal to 10 percent of your dwelling. Trees and shrubbery normally can be replaced up to a limit of 5 percent of your dwelling coverage. As is the case with your personal property, you should assess your needs to determine if you want to pay extra amounts to increase these levels of protection.

Also, pay attention to what might happen if you were to lose the use of your home for an extended period. Loss-of-use provisions are important elements of homeowners policies, and coverage levels up to and exceeding 30 percent of your dwelling's insurance aren't unusual.

If someone not covered on my health insurance was to suffer a serious injury in my home, and I were found liable, how would I fare?

The standard level of liability protection in homeowners policies has been $100,000, but it's rising all the time. Today, $300,000 is not an uncommon amount, and even higher levels are recommended for affluent homeowners with substantial assets to protect. In this situation, "umbrella" policies have become popular. These policies provide excess liability coverage on both your homeowners and automobile policies, and are relatively inexpensive (you normally need to carry both underlying policies with the same insurer).

Can I afford a high deductible--say $1,000--to save money on the premium?

The differences in annual premiums between policies with deductibles of $250 (you pay the first $250 of damage, the insurer pays the rest), $500 and $1,000 may easily be worth twenty to 30 percent of the annual premium. So, if you can afford the expenditure, and want to place a small bet that you won't face a home-related loss, consider a larger deductible.

Homeowners and Renters Claims Tips

  1. Promptly notify your insurance company or agent of your loss.
  2. Make a detailed list and description of the damage, including photographs if possible. Collect your canceled checks, receipts and other documents to help the adjuster set a value on damaged or destroyed property.
  3. Review your coverage. You might not be aware, for example, that your homeowners or renters policy pays for debris removal and for emergency housing and living expenses if your loss forces you to move temporarily. If you can't find your policy, ask your agent or company for a copy.
  4. Do not make permanent repairs before an insurance adjuster inspects your home. Make only temporary repairs to protect your home from looting or further damage. The insurance company might deny your claim if you make permanent repairs before the adjuster inspects the damage.
  5. If damage in your area is extensive, take extra steps to help your insurance company's adjuster find you. Make sure your address is visible from the street. Paint your insurer's name, policy number and temporary address on a plywood sign.
  6. If possible, be present during the insurance adjuster's inspection and take notes. You might want your own contractor/builder present to represent your interests. Take notes on all contacts with your insurance company and adjuster. Your chance of getting a satisfactory settlement improves when you are well prepared with the facts. Write down names, dates, and conversations. Remember, good records help your cause in the event you legally contest your insurance company's decision, or dispute it with the Department of Insurance.
  7. Don't agree to a final claim settlement until you are satisfied that it is fair. You're entitled to obtain independent estimates if you wish.
  8. After major claims events (disasters, storms etc), "public adjusters" offer to help victims pursue their insurance claims--for a price. You probably don't need a public adjuster, but if you hire one, be sure about the fee. Usually, it's a percentage of your claim payment.
  9. Get more than one bid for construction or repair work. Try to use a local contractor with a good reputation. Large claims events like storms often attract fly-by-night operators who do shoddy work or skip town after receiving advance payments.

Tips courtesy of the Texas Department of Insurance

Title Insurance

As a buyer of real estate, you want the assurance that the property you are buying will belong to you and be marketable--that there are no hidden interests in the property which will interfere with its use and ultimate disposition.

The written, public record of ownership of a particular piece of real property is critically important, but not sufficient in determining its ownership. In investigating the ownership of a parcel of property, one could trace the "paper chain of title" back to the original conveyance from the government. The chain of title, however, wouldn't readily reveal incomplete or erroneous shortcomings--forgery, or the mental incompetence of a grantor, for example. Title insurance was developed to help provide compensation for certain faulty guarantees and to assure marketable title.

How does title insurance differ from other types of insurance?
Title insurance is different from other types of insurance in that it protects you, the insured, from a loss that may occur from matters or faults from the past. Other types of insurance such as auto, life or health cover you against losses that may occur in the future. Title insurance does not protect against any future faults. Another difference is that you pay a one-time premium. A title insurance policy will protect you from risks or undiscovered interests. Once purchased, title insurance remains in effect for as long as you own your property.

Standard Policy
The standard policy of title insurance protects real property owners against items on- and off-record. Off-record risks include forgery, lack of capacity to enter into a transaction (incompetence or improper authority), impersonation, failure to properly deliver the deed, etc. The policyholder is NOT protected against title defects known to the policyholder on the date of issuance of the policy.

American Land Association Policy (ALTA for lenders).
This policy was developed to provide additional coverage to lenders who could not physically inspect the property without incurring great expense. It includes the risks associated with the rights of parties in physical possession, patent reservations, recorded notices of zoning enforcement, and unmarketable title.

Extended coverage (ALTA Owner's Policy)
This is a policy that gives buyers or owners the same protection that the ALTA policy gives to lenders.



Flood Insurance

Flood insurance may be required by the lender if your home is in a low-lying area and vulnerable to flooding. Your homeowners policy will not cover you for any damage due to flooding.

The National Flood Insurance Program (NFIP) defines flooding as "a general and temporary condition during which the surface of normally dry land is partially or completely inundated. Two adjacent properties or 2 or more acres must be affected." According to NFIP's definition, flooding can be caused by any one of the following:

  • the overflow of inland or tidal waters
  • the unusual and rapid accumulation or runoff of surface waters from any source such as heavy rainfall
  • the incidence of mudslides or mudflows caused by flooding which are comparable to a river of liquid and flowing mud;
  • or the collapse or destabilization of land along the shore of a lake or other body of water resulting from erosion or the effect of waves or water currents exceeding normal, cyclical levels.

Flood insurance is a special policy backed by the federal government, with cooperation from local communities and private insurance companies. More than eighteen thousand communities have agreed to stricter zoning and building measures to control floods. Residents in these communities are entitled to purchase flood insurance through NFIP. (Those who own property in certain coastal barrier areas are excluded from the federal program.)

About two hundred insurance companies, possibly including the company that already handles your homeowner's or auto insurance, write and service the policies for the government, which finances the program through premiums. The average flood policy premium is about $350 a year; some people in low-risk zones can obtain flood insurance for as little as $106 a year.

Even though flood insurance is relatively inexpensive, most Americans are unprotected against flood loss. According to the Federal Insurance Administration, of the approximately ten million households in so-called Special Flood Hazard Areas - the most vulnerable to flood - no more than a quarter are covered by flood insurance. Yet in these special hazard areas, flooding is twenty-six times more likely to occur than a fire over the course of a typical thirty year mortgage.

Home Warranties

Traditionally, home warranties have protected homeowners from repair costs that aren't covered by home insurance, especially the inner workings of a home--plumbing, heating, air conditioning, and major appliances. Home warranties are often crucial in real estate transactions because they help home buyers as well as sellers rest more easily, safe in the knowledge that an unforeseen problem with a furnace won't spark a financial conflict, postpone a real estate closing, or blow a deal altogether.

While home warranties aren't necessary for every current homeowner, those who benefit most are those trying to buy or sell homes.

When you buy a home, you assume the burden of maintaining a variety of systems and appliances. Sellers are required to disclose known problems, but can't be blamed for passing along a washing machine or an oven that fails six months after the sale. That's when a home warranty goes to work.

The National Board of Realtors describes home warranties as service contracts, typically lasting one year, that cover the repair or replacement of major home systems and appliances that break down due to normal wear and tear. Home warranties don't overlap or replace the homeowner's insurance policy, says Alan Pyles, president of HMS Home Warranty. "They work hand-in-glove," he explains. "The warranty covers mechanical breakdowns, while insurance typically repairs the related damage. Think of it as a cause/effect relationship: If a pipe burst and destroyed a wall in your home, we'd repair the pipe that burst; your insurance would fix the wall."

Similarly, if your refrigerator were to stop working while you were on vacation, there could be spoilage, leakage, or floor damage. Your homeowners insurance might pay for the damage to the linoleum, while the home warranty would cover the mechanical breakdown of the refregerator.

Generally, home warranties cover malfunctions of major appliances such as washers, dryers, ovens, refrigerators, as well as ductwork, plumbing, electrical, heating, and air-conditioning systems. In some cases, or for additional fees, the warranty might extend to garbage disposals, doorbells, paddle fans, garage-door openers, water softeners, trash-compactors, and built-in microwaves.

The age of the home doesn't matter as far as coverage is concerned, as long the covered items are in good working order at the start of the contract, explains John Yacono, vice president of national accounts for American Home Shield, the nation's oldest and largest provider of home warranty contracts.

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