Homeowners often get mortgage loan insurance when they make a down payment of less than 20 percent on a home. Some federal agencies also require people to get mortgage insurance when they purchase homes, including the Federal Housing Administration (FHA) and the United States Department of Agriculture (USDA). Mortgage insurance benefits homeowners by letting them take out a larger loan than they would otherwise be able to do. While this helps cover the cost of a home purchase and other expenses, it can also increase the cost of the loan for borrowers. As with a mortgage loan, people who take out mortgage insurance typically pay back the cost of that insurance in monthly installments.
Mortgage Loans and Mortgage Insurance Fees
Borrowers can take out several types of mortgage loans that have low down payments. The rate of a borrower's monthly mortgage insurance payments is different for each type of loan. With a conventional loan, the lender generally arranges the mortgage insurance through a private entity. Private mortgage insurance rates, or PMI rates, vary based on a person's credit score and down payment amount. Taking those factors into consideration, PMI rates are usually lower than rates administered through the FHA, even for borrowers with a good credit history. Conventional loans are normally paid on a monthly basis. If applicable, they generally have a very small initial payment required at the time of closing. Some lenders may let borrowers cancel the PMI if necessary.
A second type of loan is administered by the FHA. An FHA loan means that a borrower's mortgage insurance premiums are paid directly to the FHA instead of going to a private company. While mortgage insurance is not necessarily a requirement for all loans, it is mandatory for anyone taking out an FHA loan. An FHA loan costs approximately the same for borrowers regardless of their credit score. There may be a slight increase, however, for loans given when a person makes a down payment of less than five percent on a home. An FHA loan also requires a monthly payment, and it normally requires an upfront fee. If a borrower cannot pay the upfront fee for the loan, he or she may be able to transfer that cost into the mortgage. In turn, this increases the amount of the loan and costs associated with the loan.The USDA offers a loan program similar to the FHA's. USDA loans are paid upfront and at the time of closing, just like FHA loans. USDA loans also let borrowers roll upfront cost of the insurance into their mortgage loans. Qualifying individuals can get insurance through the Department of Veterans' Affairs (DVA). Loans backed by the DVA are specifically made to help service members, military veterans and family members of those individuals. Mortgage insurance through the DVA does not require monthly payments, but it does have an upfront fee.
Drawbacks of Mortgage Insurance
While mortgage insurance protects lenders, it does not give borrowers any protection in the event they fall behind on making monthly payments. If borrowers do fall behind on their monthly payments, their credit scores may suffer and they run the risk of foreclosure.