What Is Mortgage Insurance?

Mortgage insurance allows you to buy a home with less than a 20% down payment by reducing the lender’s risk.^[1]

This policy protects the lender if the borrower fails to make repayments. While it protects the lender and not the borrower, it does make it possible for you to secure a mortgage without a large upfront payment.

What is mortgage insurance and how does it work?

Mortgage insurance protects the lender if the borrower falls behind on payments. It does not protect the borrower but is often required as a condition of getting a loan.

Mortgage insurance is typically required for Federal Housing Administration (FHA) and U.S. Department of Agriculture (USDA) loans. It may also apply to conventional loans when the borrower makes a down payment of less than 20%.^{[1] [2]}

There are two main types of mortgage insurance, depending on the loan type:^[3]

• Private mortgage insurance (PMI) is generally required on conventional loans when the borrower makes a down payment of less than 20%.
• Mortgage insurance premium (MIP) is required on all FHA loans

In both cases, the purpose of mortgage insurance is to protect the lender if the borrower defaults on the loan.

What does mortgage insurance cover?

Mortgage insurance covers the lender only. It’s there to reduce their risk in case you default on your loan. Private mortgage insurance (PMI) or Mortgage insurance premiums (MIP) do not offer any protection to you as a borrower and should not be relied upon for personal financial protection. ^[1]

How long do I need to pay mortgage insurance for?

The length of time you’ll pay mortgage insurance depends on the type of insurance, length of the loan, and your monthly repayments.

Borrowers with conventional loans typically pay private mortgage insurance (PMI) until the loan balance reaches 78% of the home’s original value. Lenders are generally required to cancel PMI automatically at this point, as long as payments are current.^[4]

PMI must also be removed at the halfway point of the loan term, even if the 78% threshold hasn’t been reached, provided the borrower is up to date on payments.^[4]

For FHA loans, mortgage insurance premiums (MIP) are required for either 11 years or the full loan term, depending on the down payment and loan structure.^[5]

Can I remove mortgage insurance early?

Some borrowers may be able to cancel PMI earlier than the automatic 78% threshold, but specific conditions apply.

You can request early cancellation when your loan-to-original-value (LTOV) ratio falls below 80%. LTOV is calculated by dividing your current unpaid principal balance by the purchase price of your home or the appraised value at closing, whichever is less.

To be eligible for early PMI removal:

• Your loan must meet certain payment history requirements
• You must be current on payments
• You may need to provide an appraisal of other documentation confirming the home’s value hasn’t declined^{[4] [5]}

Types of loans and associated insurance

Understanding all of the different types of insurance and loans can be tricky, which is why it is necessary to understand the differences between Conventional, Federal Housing Association (FHA), U.S. Department of Veteran Affairs (VA)-backed loans, and U.S. Department of Agriculture (USDA) loans.

Conventional loans

Conventional loans are not backed by the government and are offered by private lenders. These loans generally require a higher credit score and financial documentation compared to government-backed options.

With a conventional loan, mortgage insurance is typically required if the down payment is less than 20% of the home’s purchase price. This insurance is known as private mortgage insurance (PMI) and protects the lender, not the borrower, if the borrower defaults.

In some cases, PMI may also be required even when a borrower puts down more than 20% depending on the lender’s guidelines and risk assessment. However, there are some cases in which borrowers may qualify for a conventional loan with as little as 10 percent down without having to pay mortgage insurance.^[6]

Federal Housing Administration (FHA) loans

FHA loans are government-backed mortgages designed to help first-time or low-income buyers purchase homes. Generally, FHA loans are more lenient on their credit score criteria compared to conventional loans–making qualifying for a loan possible for those with bankruptcy or financial issues in their history.^[3]

Borrowers with FHA loans must pay both an upfront mortgage insurance premium (usually 1.75% of the loan amount) and an annual premium added to monthly payments. The annual cost typically ranges from 0.15% to 0.75% of the loan amount, depending on the loan term, total loan size, and down payment.

VA-backed loans and funding

VA-backed loans are mortgage loans guaranteed by the U.S. Department of Veterans Affairs (VA), which are available to help eligible service members, veterans and surviving spouses in purchasing a home.

These loans do not require monthly mortgage insurance. Instead, borrowers typically pay a one-time upfront funding fee. Like FHA and USDA loans, you can choose to roll the upfront fee into mortgage instead of paying it out of pocket, but this will increase the loan amount and overall costs.^[1]

The fee cost varies based on:^[1]

• Type of military service
• Down payment amount
• Disability status
• Whether buying a home or refinancing
• Whether this is the first VA loan, or if you’ve had one before

For first-time VA loan users with no down payment, the funding fee is typically 2.15% of the loan amount. For all subsequent uses, the fee rises to 3.3% of the loan amount. Buyers can lower their funding fee exposure by making a down payment.^[7]

U.S. Department of Agriculture (USDA) Loans

U.S. Department of Agriculture loans are backed by the U.S. Department of Agriculture to assist low-income borrowers in rural areas purchase a home. These loans do not require a down payment, making them one of few options that allow 100% financing for qualifying applicants.

Like FHA loans, USDA loans are government-backed and require mortgage insurance. This includes two types of fees: an upfront guarantee fee and an annual fee.

The upfront fee is typically 1% of the loan amount. The annual fee is generally 0.35% of the remaining principal balance, paid in monthly installments. Borrowers may also choose to roll the upfront guarantee fee into the total loan balance.^[8]

Types of insurance policies

There are several types of insurance associated with home loans, but not all serve the same purpose. Some are required by lenders to reduce risk, while others are optional protections chosen by the borrower.

Private Mortgage Insurance

Private Mortgage Insurance (PMI) is typically required on conventional mortgages when the borrower puts down less than 20% of the home’s purchase price. PMI protects the lender – not the borrower – if the borrower defaults on the loan.

PMI is usually paid monthly, though some lenders may offer other payment options. Lenders usually choose the mortgage insurance company, and the borrower is responsible for paying the premiums.^{[1] [9]}

Mortgage Insurance Premium (MIP)

Mortgage insurance premium (MIP) is a type of mortgage insurance required for loans backed by the Federal Housing Administration (FHA). It protects the lender in case the borrower defaults on the mortgage.^[1]

MIP includes two components: an upfront premium and an annual premium. The upfront MIP is 1.75% of the loan amount and is typically due at closing. However, borrowers may have the option to roll this cost into their loan, which increases the total loan balance over time.^[10]

The annual MIP is calculated based on the loan amount, term, and down payment, and is paid monthly as part of the mortgage payment. Unlike private mortgage insurance (PMI), which may be cancelled at a certain threshold, MIP is generally required for the life of a loan. An exception applies if the borrower makes a down payment of at least 10%, in which case MIP ends after 11 years.^[10]

Mortgage Protection Insurance

Mortgage protection insurance (MPI), also known as mortgage life insurance or mortgage protection life insurance, is a policy that may ensure that your mortgage is paid off in the event of your death, providing financial security for your family.

This type of protection protects the borrower’s family and may allow your family to remain in the home without the burden of ongoing mortgage payments.

MPI is usually sold through banks and mortgage lenders instead of life insurance companies. An MPI policy will pay off your lender. The death benefit of a normal life insurance policy goes to your chosen beneficiaries, like your family members. But with an MPI policy, the beneficiary is the lender, who will be paid the remaining balance of your mortgage.^[11]

It could be more beneficial to get a term insurance policy, a policy that covers you for a specific period – typically between 10, and 30 years. If the insured person dies within this period, the policy pays a lump-sum death benefit to the designated beneficiaries.^[12]

How much does mortgage insurance cost?

The cost of mortgage insurance varies depending on whether it’s private mortgage insurance (PMI) or mortgage insurance premium (MIP) and the total loan amount.

PMI is required on conventional loans when the borrower puts down less than 20% and typically costs between 0.5% and 1.5% of the loan amount per year. PMI is paid monthly as part of the mortgage payment.^[13]

MIP is required for FHA loans and consists of an upfront premium of 1.75% of the loan amount and an annual premium between 0.15% and 0.75%. The upfront MIP can be rolled into the loan balance, increasing the total loan amount.^[11]

Can I avoid paying mortgage insurance?

Mortgage insurance can be avoided by paying more than 20% as a down payment, using a piggyback loan or taking out a VA-backed loan.

Here are some potential options to avoid paying for mortgage insurance:

• Making a 20% down payment: Typically, mortgage insurance is required when you pay less than 20% as a down payment.^[1] This could be done by delaying the purchase of a home, and saving more money for the down payment.
• Taking out a piggyback loan: A piggyback loan allows you to take out a mortgage (known as a primary loan) for 80% of the home’s value–you then take a secondary loan (the piggyback loan) from a different lender on another 10% of the home value. The secondary loan is usually a home equity loan or home equity line of credit (HELOC), both these types of credit use the house as collateral.^[14]
  Borrowers should carefully consider the financial implications of piggyback loans. Each loan may require separate approval and closing, with added costs such as home appraisals, legal fees, and origination charges. If financial circumstances change, total costs over time may exceed those of a traditional mortgage with PMI.^[14]
• Qualifying for a VA-Backed loan: Eligible veterans, active-duty service members and surviving spouses can qualify for VA loans that do not require a PMI, but there is an upfront funding fee required.^[7]

Benefits of mortgage insurance

Despite only protecting the lender, mortgage insurance is beneficial to the borrower, making it possible to qualify for a mortgage with as little as a 3% down payment.^[7]

There are advantages to mortgage insurance for borrowers, here are some of the benefits:^[15]

• Makes buying a home possible, especially for first-time buyers, who can reach saving goals for the down payment sooner.
• Private Mortgage Insurance can be canceled when the loan reaches 78% and under certain circumstances, 80%.

Next steps

Mortgage insurance is there to mitigate risk for the lender and it’s important to understand that there is no protection for the borrower. Keep in mind that it can make buying a home more attainable for a borrower with less than 20% saved for a down payment.

Sources

1. Consumer Financial Protection Bureau. “What is mortgage insurance and how does it work?” https://www.consumerfinance.gov/ask-cfpb/what-is-mortgage-insurance-and-how-does-it-work-en-1953.
2. Consumer Financial Protection Bureau. “What costs come with taking out a mortgage?” https://www.consumerfinance.gov/ask-cfpb/what-costs-come-with-taking-out-a-mortgage-en-153.
3. Rocket Mortgage. “FHA Loans” https://www.rocketmortgage.com/learn/fha-loans.
4. Consumer Financial Protection Bureau. “When can I remove private mortgage insurance (PMI) from my loan?” https://www.consumerfinance.gov/ask-cfpb/when-can-i-remove-private-mortgage-insurance-pmi-from-my-loan-en-202/.
5. U.S. Bank. “3 Ways to Get Rid of Mortgage Insurance” https://www.usbank.com/home-loans/mortgage/first-time-home-buyers/3-ways-to-get-rid-of-mortgage-insurance.html.
6. Sprint Funding. "Does a Conventional Loan Require Mortgage Insurance?" https://sprintfunding.com/conventional-loans/does-conventional-loan-require-mortgage-insurance/.
7. Veterans United. “VA Loans: What You Need to Know” https://www.veteransunited.com/va-loans/.
8. Neighbors Bank. “USDA Mortgage Insurance” https://www.neighborsbank.com/learn/usda-mortgage-insurance/#usda-pmi.
9. Consumer Financial Protection Bureau. “What is private mortgage insurance?” https://www.consumerfinance.gov/ask-cfpb/what-is-private-mortgage-insurance-en-122/.
10. Rocket Mortgage. “MIP vs. PMI: Understanding The Differences” https://www.rocketmortgage.com/learn/mip-vs-pmi.
11. NerdWallet. “Mortgage Life Insurance: What It Is and When You Need It” https://www.nerdwallet.com/article/insurance/mortgage-life-insurance.
12. Guardian Life. “How Term Life Insurance Works” https://www.guardianlife.com/life-insurance/how-term-life-works.
13. The Mortgage Reports. “How much is mortgage insurance? PMI cost vs. benefit” https://themortgagereports.com/24154/private-mortgage-insurance-pmi-cost-low-downpayment-return-on-investment.
14. Experian. “Are Piggyback Loans a Good Idea?” https://www.experian.com/blogs/ask-experian/are-piggyback-loans-a-good-idea.
15. MGIC. “What is mortgage insurance?” https://www.mgic.com/mortgage-insurance-basics/what-is-mortgage-insurance.

About the author

Becca has over 10 years of experience as a content writer, working across various industries including finance, digital marketing, education, travel, and technology. Her work has been featured in publications including Forbes, Business Insider, AOL, Yahoo, GOBankingRates, and more.

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