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Lender-paid private mortgage insurance (LPMI) protects the lender if you're unable to make payments. Some lenders offer it to borrowers who want a PMI-free conventional mortgage without making a 20% down payment. But is it a better option than borrower-paid PMI?
Keep reading to learn how LPMI works, when you may need it and how to avoid paying mortgage insurance altogether.
How Does Lender-Paid Mortgage Insurance Work?
Unlike with borrower-paid mortgage insurance, LPMI has the lender pay for the mortgage insurance policy. They'll typically charge you a higher interest rate on the mortgage to recoup the cost of doing so.
To illustrate, assume you use a 30-year conventional loan to buy a home for $250,000 and put 12% down. The interest rate is 3.2%, and your monthly payment (principal + interest) would be $951.43. You'd pay $92,513 in interest over the life of your mortgage.
If the lender offers you LPMI with a higher rate of 3.6%, your new mortgage payment would climb $1,000.22 (principal + interest), and you'd pay $110,079 in interest over the life of the loan.
If you agree to pay the premium PMI yourself, your interest rate would not change, but the cost of coverage would add $165 per month. That added expense would bring your monthly mortgage payment to $1,116.43 per month (principal + interest + PMI).
When comparing monthly payments, the mortgage with LPMI would save you $116.21 a month—clearly the better deal. There's one big caveat, though: PMI on conventional loans is only required until you reach 20% equity in the home, whereas the higher interest rate on an LPMI loan sticks around for the life of the loan—potentially costing you more in the long run.
If your lender offers LPMI, calculate the difference between the monthly payment with borrower-paid PMI and LPMI to see which one is lower. Also consider the downside that your interest rate on an LPMI mortgage will remain higher long after your PMI premium would have dropped off.
When Would You Want or Need LPMI?
You will need mortgage insurance if your lender requires it. Typically, PMI is required for conventional loans with down payments under 20%, and it can be removed once you meet that amount of equity in the home. On FHA loans, a mortgage insurance premium that remains for the life of the loan is required on low down payment loans. LPMI could be a better fit than traditional mortgage insurance if you want to reduce your monthly payment.
What Are the Pros and Cons of LPMI?
Before you decide if LPMI is right for you, consider the benefits and drawbacks.
- Lower monthly mortgage payments: Generally, the monthly payment on a mortgage with LPMI will be cheaper than one with borrower-paid mortgage insurance premiums, even when considering the higher interest rate.
- Set monthly mortgage payments: Principal and interest payments will remain the same for the life of the loan.
- Could increase your approval odds: A lower mortgage payment could help you qualify for a higher mortgage amount if it reduces your projected debt-to-income ratio.
- Tax-deductible: You can possibly deduct the amount paid for LPMI on your tax return if you itemize deductions. Consult with a tax professional to learn more.
- Only available through select lenders: A mortgage with LPMI may not be available to you, depending on the lender.
- Higher interest rate: The lender increases your mortgage's interest rate to cover LPMI costs.
- LPMI sticks around for the life of the loan: Unlike PMI, LPMI can't be removed from the loan when you reach 20% equity in your home. It's built into your mortgage and lingers until you refinance or pay off the loan.
- Could be more costly over time: If you plan to stay in the home for a long time, you could pay more for your loan with the higher interest rate that comes with LPMI.
How to Avoid Paying Mortgage Insurance
You can avoid LPMI by making a down payment of at least 20%. If that's not possible, but you don't want the higher interest rate required on an LPMI loan, you can pay some or all of your LPMI costs at closing.
If your mortgage requires traditional PMI that you pay, you can possibly get rid of it by requesting to cancel the policy when your loan's principal value reaches 80% of your home's original value. You could also qualify for an automatic cancellation when you're scheduled to have 22% equity in your home or the principal balance is 78% of the original property value.
Also, consider refinancing your conventional mortgage or FHA loan into a product that doesn't require mortgage insurance once you reach 20% equity. Refinancing a mortgage with PMI could save you the cost of the premium and could even get you a lower interest rate.
Improve Your Credit Score to Secure a More Favorable Mortgage
Get your free Experian credit report and score to determine if you're in a position to refinance into a product without mortgage insurance. Your credit health can impact your ability to qualify for a new loan or get competitive terms.
Depending on your credit rating, you may need to improve your credit health before applying.