Private mortgage insurance, often referred to as PMI, is insurance that lenders require borrowers to pay for when they get a mortgage and don’t have enough equity in the home. Generally, this means coming up with a 20% down payment when buying a home just to avoid paying the PMI premium. Unfortunately, with the cost of housing and a tough economy it can be hard for new home buyers to come up with that kind of cash so there are few options to avoid paying PMI.

What is PMI?

While it may seem like just part of your mortgage payment it is actually a very important tool for lenders. This mortgage insurance protects the lenders in case you default on your loan. This allows the lender to recover their money even if the home is no longer worth enough to pay off the balance.

PMI is also useful for you as a borrower. Having PMI allows you to purchase a home without coming up with the full 20% down. It’s obviously a good idea to have money to put down on a new home, but it can also take years of saving just to get to that 20% number. So, thanks to PMI you’re able to put less money down and get into the home sooner.

Canceling PMI

If you are currently paying PMI there are two ways you can eliminate the payment. First, you have the right to request cancellation of PMI when you pay down your mortgage to the point that it equals 80 percent of the original purchase price or appraised value of your home at the time the loan was obtained, whichever is less.

The second option is automatic cancellation by the lender.

But, there’s a catch. A lender won’t automatically stop PMI payments until you have 22% equity in the home rather than 20%. While you have the right to cancel PMI at the 20% mark a lender won’t automatically cancel it for another 2 percent meaning you’ll be wasting a little more money if you don’t cancel it after hitting the 20% mark.

The Cost of PMI

PMI varies slightly but you can generally expect to pay roughly $40-$50 each month per $100,000 borrowed. So, for a $200,000 loan you might pay nearly $100/month on PMI, or over $1,000 each year. When you think about it that really starts to add up. Obviously, the larger the mortgage the larger the PMI payment. If you end up having to pay PMI for many years it can literally cost you thousands of dollars so make sure you weigh that into your decision when determining how much house you can afford.