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What Is Mortgage Insurance (Explained: All You Need To Know)

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Let me explain to you what mortgage insurance means and why it’s important!

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What Is Mortgage Insurance

Mortgage insurance is a type of insurance allowing lenders to grant mortgages to borrowers with a higher risk profile.

In other words, the lender’s risk in making a loan to a borrower is reduced with mortgage insurance.

The net result is that a borrower may potentially qualify for a home loan or mortgage that he or she would not have otherwise been able to qualify for without mortgage insurance.

In most cases, when you purchase mortgage insurance, the cost of your insurance (or your premiums) will either be amortized over the life of your loan and get included in the monthly payments made to the lender or you will have to pay it at closing.

Typically, you’ll need to get mortgage insurance if you are getting a US Federal Housing Administration mortgage or you are purchasing a property where you will put less than 20% in cash down payment.

With an FHA mortgage, regardless of how much cash down you put, you will need to get mortgage insurance.

With a conventional loan where you intend to put less than 20% cash down, your lender will ask you to get private mortgage insurance to help reduce the lender’s risk in lending money to you.

What Is The Purpose of Mortgage Insurance

The main purpose of mortgage insurance is to protect the mortgage lender.

In essence, the point of getting mortgage insurance is to protect the lender from the risk of lending money to a borrower exposing the lender to more risk or to help a borrower that would not have qualified for a mortgage to qualify.

Should the borrower default on the mortgage, the lender will not lose money and will be able to recover its funds.

On the other hand, mortgage insurance will not save the borrower.

In the event of default, the borrower’s credit score will get affected and eventually the lender will foreclose the property.

How Does Mortgage Insurance Work

Mortgage insurance is a type of insurance coverage protecting lenders from borrowers defaulting on their mortgages.

The way mortgage insurance works is that you, as the borrower, will have to assume the cost of getting mortgage insurance for the lender.

The mortgage insurance cost can be paid in full at the closing of the property or can be included in your monthly mortgage payments.

If you default on your loan payments, the mortgage insurance will help cover some of the lender’s principal.

However, even though the lender may receive mortgage insurance disbursements, it does not mean that you are no longer responsible for the mortgage payment.

In fact, you remain fully responsible for the mortgage payments that you missed.

If you do not remedy your default, in the worst-case scenario, you will eventually get foreclosed and the lender will take over your property.

What Are The Different Types of Loans And Mortgage Insurance

Let’s look at different types of loans that you can take and the nature of mortgage insurance that you may need.

Conventional Mortgage

A conventional loan is a standard loan that you get from your bank or financial institution where you borrow money to purchase your home.

Conventional mortgages are not backed by the US government or any of its agencies and so the lender is the only entity taking on all the risk in lending you money.

In such cases, the lender can ask you to purchase private mortgage insurance which is a mortgage insurance policy that you’ll purchase from an insurance company.

The cost of your private mortgage insurance will be determined by the value of the coverage, your credit history, the amount of cash down payment that you are putting, and other factors.

Federal Housing Administration Loan (FHA Loan)

FHA loans allow borrowers to put as little as 3.5% cash down payment to purchase a home and such loans can be extended to individuals with lower credit scores.

When you take an FHA loan, you will have to assume the costs of mortgage insurance premiums no matter how much cash down payment you are putting.

Essentially, one of the requirements to qualify for an FHA loan is to have mortgage insurance.

The FHA mortgage insurance cost is the same for all and includes both an upfront cost required at the closing of the property and then certain monthly costs paid with your mortgage payments (annual premiums).

US Department of Agriculture Loan (USDA)

USDA loans are loans allowing individuals living in rural areas to purchase a home without having to put any cash down payment.

To obtain a USDA loan, you will also need to take mortgage insurance.

Just like FHA loans, you will have to pay a certain mortgage insurance cost upfront and some costs are added to your monthly mortgage payments.

Compared to FHA loans, USDA loans are slightly cheaper.

Department of Veterans’ Affairs-Backed Loan (VA)

Disabled or retired military personnel, certain National Guard members and reservists, along with their surviving spouses can be eligible for VA-backed loans.

Loans backed by the Department of Veterans’ Affairs do not require that you take mortgage insurance as the loan is guaranteed by the VA.

In other words, the Department of Veterans’ Affairs promises to compensate the lender should the borrower default on his or her payment.

The good news is that those who qualify for a VA loan do not have to pay mortgage insurance costs but will still have to pay a funding fee.

The funding fee will be established based on the type of military service you performed, how much cash down you are putting, if you have any disabilities, whether you are buying a home or refinancing a home, and so on.

What Is Mortgage Insurance Premiums

So what is mortgage insurance premium you ask!

Essentially, a mortgage insurance premium is the amount of money that you need to pay to purchase mortgage insurance.

Your mortgage insurance cost will depend on various factors, such as:

  • Your credit score
  • The value of your home
  • The term of your mortgage 
  • If you are taking fixed or variable interest rates
  • Your loan-to-value ratio (LTV ratio)

And other risk factors considered by your lender.

There are three types of mortgage insurance premiums that a borrower may have to pay, namely:

  • Borrower-paid mortgage insurance premiums
  • Lender-paid mortgage insurance premiums
  • FHA or USDA mortgage insurance premiums

The most common type of mortgage insurance premium is the borrower-paid mortgage insurance premiums.

In this case, the premiums are established and you will either pay for them upfront or amortize the premiums in your mortgage.

The second type is when the lender pays for the borrower’s mortgage insurance.

In this case, your lender will charge you more interest on the loan but will assume the cost of your mortgage insurance premium.

Finally, you have the FHA or USDA mortgage insurance premiums where you are required to pay a certain amount as upfront mortgage insurance premiums (UFMIP) and then a certain amount as annual mortgage insurance premiums (AMIP).

What Is The Difference With Mortage Protection Insurance

What is the difference between mortgage protection insurance and private mortgage insurance (PMI)?

In essence, mortgage protection insurance is a type of insurance policy that a borrower takes to protect the borrower.

Typically, mortgage protection insurance is useful to protect borrowers when they lose their job, become disabled, or even pass away.

To qualify for a mortgage, lenders do not require that borrowers take mortgage protection insurance but some borrowers prefer to take this coverage to protect their families.

On the other hand, mortgage insurance is a type of protection given to lenders when they extend a loan to borrowers generally putting less than 20% cash down to buy a home.

With mortgage insurance, if the borrower defaults on his or her payment, the lender is able to get some of its principal covered.

However, the borrower remains fully responsible for the mortgage and can eventually lose his or her property if the mortgage default is not cured.

How To Avoid Mortgage Insurance

What can you do to avoid having to pay extra for mortgage insurance?

Although everyone’s financial situation is different, here are some options that can be contemplated to avoid having to take mortgage insurance.

The first thing that you should do is to consider putting 20% in cash down payment or more.

That’s of course easier said than done.

The second option is to take a piggyback second mortgage.

With this option, you take a mortgage for 80% of the value of your home with the first lender and you take a second mortgage covering the remaining 20%.

Be sure you speak with professionals before you make any decisions about your mortgage to avoid any surprises.

The other alternative is to see if you qualify for a government-backed mortgage or loan.

For example, US veterans can qualify for VA loans where they will not have to pay any mortgage insurance premiums.

In essence, the US Department of Veteran Affairs will guarantee the lender’s loan without having the borrower assume mortgage insurance costs.

Finally, you should look at the terms and conditions of your mortgage insurance.

If you have taken private mortgage insurance or PMI, you may be able to cancel your insurance once you have accumulated a certain amount of equity in your home.

What Is Mortgage Insurance Coverage Takeaways 

So there you have it folks!

What is loan insurance?

When do you need property mortgage insurance?

How does it work?

Mortgage insurance protects lenders who make loans to borrowers exposing them to higher risk.

Typically, if you are purchasing a home and where you are leaving less than 20% of the value of your home in cash down payment, you are likely going to need to pay for mortgage insurance.

The main objective of mortgage insurance is to mitigate the lender’s lending risk allowing individuals who would not have ordinarily qualified for a mortgage to obtain one.

In most cases, your mortgage insurance premiums will be calculated and included as part of your mortgage.

If you qualify for FHA loans or USDA loans, you will have an upfront cost that needs to be paid at the closing of the property and then some annual premiums that are added to your monthly mortgage payment.

Your main takeaway is that mortgage insurance is beneficial for those who cannot afford to put at least a 20% cash down payment to purchase a home or those who prefer paying for the insurance premiums and keeping their cash for other expenses or emergencies.

I hope I was able to answer your question about what is property mortgage insurance, when it’s needed, and how it works.

Good luck with your mortgage insurance!

Let’s look at a summary of our findings.

What Is Home Mortgage Insurance Summary

  • Mortgage insurance allows borrowers to qualify for home loans by protecting lenders against the borrower’s mortgage default 
  • Individuals with low credit scores or those leaving less than 20% cash down payment can aspire to qualify for a mortgage by purchasing mortgage insurance
  • There are two main types of mortgage insurance, those offered by private insurance companies and those provided by government agencies like the FHA
  • Mortgage insurance is a type of insurance that protects your lender whereas mortgage protection insurance is a type of insurance that protects borrowers
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