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What is PMI?

Private mortgage insurance, or PMI, insures the lender against any loss arising from the borrower's default. It should not be confused with mortgage life insurance, which pays all or a portion of your mortgage in the event of your death.

Lenders will usually require PMI for mortgages where the borrower puts down less than 20% to ensure that they will be able to recover their investment in case the borrower does not repay the loan. This insurance premium is paid by the borrower and is included in the mortgage payment. Because there is a strong correlation between a borrower's equity and default, the amount of this premium will be higher when you have less invested in your home.

You are not responsible for paying PMI for the full life of your loan. By federal law, for mortgages signed on or after July 29, 1999, your PMI must be terminated automatically provided that 1) you have at least 22% equity based on the original property value and 2) your loan is current. There are exceptions to this law, however. The law does not apply, for example, if you have been late on your payments in the past year.

If you signed your mortgage before July 29, 1999, you may request that your lender terminate your PMI once you have reached 20% equity in your home, but your lender is under no requirement to honor the request.

There are alternatives...

One common "trick" to avoid PMI is to get a combination of first and second mortgages such as "80/10/10" where your first mortgage is 80% of the loan value, your second mortgage is 10%, and your down payment is the remaining 10%. These combinations come in other varieties such as "80/15/5" or even "80/20" where you have no down payment. The interest rate on your second mortgage will be higher, but provided you ensure that it does not have a prepayment penalty, there is a good chance that you will be able to refinance the second mortgage into a lower rate loan after you have built some equity.

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