Almost everyone wants to be a homeowner. As children, we all imagine what our lives will be like when we grow older and where we will end up. Homeownership isn’t just a dream, it’s something you’ve fantasized about your entire life.
Don’t let something intimidating like a down payment crush your hopes of home ownership. Many Americans struggle to save up enough money for a downpayment on a property. That is why PMI (Private Mortgage Insurance) exists. Not everyone can realistically afford to pay a large down payment on a property.
What is Private Mortgage Insurance?
Private mortgage insurance is actually not for you. It’s for your bank lender. Confusing, I know.
The way that PMI works:
Whenever anyone wants a mortgage loan from the bank but cannot pay the full down payment amount, the bank will require you to get private mortgage insurance. You will pay monthly towards your private mortgage insurance and in return the insurance agency protects your mortgage lender.
Why does your mortgage lender require you to get private mortgage insurance?
What does PMI do for the lender?
What Does Private Mortgage Insurance Do?
Private mortgage insurance shows your lender a few different things about you as a borrower.
- Reducing Risky Business
You are let go from your current job and are looking for a new one. The bills start to pile up and you make a few late payments on your mortgage loan. The private mortgage insurance will reimburse your lender, helping to minimize any loss on your lender’s end.
It is simple when you think about it this way:
It is insurance you pay on your mortgage. If you don’t pay your mortgage, the private mortgage insurance company covers paying your lender, ensuring that your lender doesn’t lose money.
Just like with any insurance. It is there to make sure you have a safety net when things aren’t going according to plan.
In short, the lender will see your loan as less of a risk with private mortgage insurance and will be more likely to agree to the loan, which is exactly what you want.
However, this does NOT mean you are protected from losing your home. PMI is not meant to protect you from losing your home. It is there to protect your lender from losing money if you can’t make a payment or if you default on your loan.
- Reducing Possible Loss:
When someone defaults on a mortgage loan, it is a huge loss for the bank. They are losing money they invested in the property, legal fees, and other expenses.
But there are also major losses your lender deals with when you pay your mortgage late or go several months making no payments. PMI helps to cover some of those expenses to help reduce the financial loss on your lender’s side.
- Encourages Borrowing Responsibly:
The biggest disadvantage of Private Mortgage Insurance is paying for it.
Yup, as the borrower, you are responsible for picking up the bill.
Just like everything in life, if you’re willing to pay more upfront you get a better deal. PMI unfortunately will increase what you are paying for your home monthly. This helps to increase the borrower’s likelihood of not missing payments and borrowing more responsibly.
This is another reason for the bank to trust you more as a borrower.