Should You Refinance to Avoid PMI with an FHA Home Mortgage?
For homeowners with FHA home mortgages, the prospect of paying Private Mortgage Insurance (PMI) can be a significant expense. PMI is required when you make a down payment of less than 20% on the home. However, there are ways to avoid or reduce PMI, including refinancing. In this article, we will explore when it might be wise to consider refinancing to avoid PMI and the steps involved in doing so.
Automatic PMI Elimination: Loan-to-Value (LTV) Ratio
One common method to avoid PMI is through the automatic elimination of the policy. Typically, your PMI will be automatically dropped when the loan-to-value (LTV) figure on your original mortgage amount falls below 80%. The LTV ratio is calculated by dividing the remaining balance of your mortgage by the original purchase price of the home. For instance, if you originally purchased a home for $100,000 and now owe $80,000, your LTV is 80%, and your PMI will likely be dropped.
However, it's important to note that not all loans will automatically terminate PMI when the LTV falls below 80%. Some loans require you to maintain an LTV of 75% before PMI is automatically dropped. In cases like this, you might need to request the termination of PMI in writing. Additionally, some loans may require you to pay PMI for a minimum number of years before it can be terminated.
Reappraisal to Reset LTV
A second option for avoiding PMI is to re-appraise your home. If the re-appraised value is high enough, it can reset your LTV and potentially eliminate your PMI payments.
To use this approach, you need to determine the LTV target required to avoid PMI. For example, if you bought a home for $100,000 with a current mortgage balance of $90,000 and you get your home reappraised to $115,000, your LTV would be $90,000 / $115,000, or approximately 78%. This might be low enough to eliminate your PMI payments.
It's crucial to understand the terms of your mortgage and PMI contract. There may be specific conditions, such as timing or comparables, which could affect whether you can eliminate PMI through a re-appraisal.
Personal Experience with Reappraisal
I recently tried re-appraising my home to eliminate PMI, but the results did not align with my expectations. The appraiser I hired charged $400, and the new appraised value was due to the movement in the local real estate market but was still a few thousand dollars short of the figure needed to fall below 75% LTV. We were two to three years into the mortgage and felt that comparable home values had increased enough to qualify, but we did not meet the detail in the first six years of the loan.
Fortunately, we were given the option to make a one-time payment of approximately $9,000 to reach the cut-off. However, this was not something we were ready to do, so we were stuck waiting a few more years. It's always wise to review the terms and conditions carefully to understand the specific requirements for PMI elimination through a re-appraisal.
Refinancing as an Option
Another approach to avoid PMI is to refinance, which can provide a new appraisal and a higher LTV ratio. Refinancing to avoid PMI can be a viable option, but it's important to consider the costs. You may have to pay closing costs, or you might roll them into the new loan.
For some, the benefit of avoiding PMI over the long term might outweigh the initial closing costs, especially if you can secure a lower interest rate on the new mortgage. However, for others, refinancing might not be the best option unless there's no fee and it's a win-win situation.
Expert Guidance and Consultation
When considering refinancing or re-appraisal, it's advisable to consult with a mortgage expert or your lender to understand your specific circumstances. Lenders might offer advice based on their policies and the current real estate market.
Additionally, having real estate experience, such as a realtor, can be valuable. They can provide market insights and help you understand the current market value of your home. For instance, if a new construction home purchased for $300,000 was financed, and comparable homes in the neighborhood were reaching $400,000 a few years later, it might be within your reach to get the PMI dropped.
Conclusion
Whether to refinance to avoid PMI depends on your specific situation and financial goals. Understanding the complex interplay between LTV ratio, appraised value, and mortgage terms can help you make the right decision. Always consult with a finance professional to ensure you have the best advice for your unique circumstances.