Mortgage loans made by the Federal Housing Administration can be a huge help to homebuyers without a large down payment. FHA loans require down payments of as little as 3.5%. Traditional loans often require 20%. Yet FHA mortgages come with some strings attached, namely FHA mortgage insurance.
Almost all mortgage loans made with less than a 20% down payment require some form of mortgage insurance. This insurance protects the lender against losses from the borrower defaulting in the first several years of the loan. It is typically paid monthly and is tacked onto the mortgage payment. With conventional loans, borrowers pay private mortgage insurance. It can be cancelled after the borrower’s loan-to-value ratio reach 78%.
FHA loan borrowers are required to pay an FHA mortgage insurance premium (MIP). Borrowers will have to pay a 1.75% upfront fee. This can be rolled into the total cost of the loan, making the monthly payments slightly higher. The actual monthly FHA MIP will cost between 0.45% and 1.05%, depending on the size of the loan, the size of the down payment and the length of the mortgage term. For example, $200,000 FHA loan with a down payment less than 5% will be charged an 0.85% MIP, or roughly $1700 per year.
FHA MIP is not as easily canceled as private mortgage insurance. With conforming 15-year or 30-year FHA loans, borrowers who put at least 10% down at the beginning of the loan will have to pay FHA MIP for 11 years, no matter how low the LTV falls. Borrowers who put less than 10% down are required to pay FHA MIP for the life of the loan, with no option to cancel. (The exception to these rules is FHA loans that were made before June 3, 2013. They can be canceled with a 78% LTV if the loan is in good standing.)
There is another way to effectively cancel FHA MIP: by refinancing into a non-FHA mortgage. If you qualify for a VA loan because of military service or family connection, you can refinance without making any down payment or having to pay any mortgage insurance.
If VA loans are not applicable, a conventional loan could be a good refinance option. They sometimes require 5% in down payments or existing equity, but private mortgage insurance on conventional loans is not required for the life of the loan and can be cancelled as soon as you have about 20% equity in your home. If the housing market prices appreciate rapidly, you could gain that much equity in just a year or two, saving you thousands of dollars in insurance costs. And even if you are not able to cancel PMI quickly, the premiums are typically less expensive than FHA mortgage insurance premiums.
FHA mortgages are a great way to break into the housing market. While it is no longer easy to cancel FHA MIP, once you have established yourself in your loan and your home, you may have other options. Refinancing into a conventional loan and private mortgage insurance can help you save a lot over the course of your loan.
Call us today at 413-737-1100 to find out what options you have to eliminate FHA mortgage insurance premiums from your loan.