The Obama administration recently announced a reduction in mortgage insurance premiums for FHA loans of 50 basis points, or half a percent. The administration expects this to save more than 2 million homeowners an average of $900 each year.
A separate program expands the 3% down payment option for conventional loans. This was initially offered to first-time home buyers, but it makes loans more affordable for people with lower to moderate incomes as well.
Here’s some more information on how you can take advantage of these opportunities and save money.
Lower Mortgage Insurance Premiums
Mortgage insurance premiums (MIP) are required for all FHA loans. They protect the lender in case a client should default. However, they also benefit the homeowner by enabling them access to a mortgage with a lower down payment, which can be as little as 3.5%.
Don’t confuse this with private mortgage insurance (PMI), which is applicable only to conventional loans. Conventional loans require a 5% down payment. PMI can be removed once loan-to-value ratio (LTV) reaches 80%. Unlike PMI, MIP lasts for the life of the loan.
What does this mean in practical terms? I’m glad you asked.
Here’s an example: On an FHA loan, if you make the minimum down payment of 3.5% (96.5% LTV), your MIP would be 1.35% of your mortgage amount under the previous policy. So if you have a $100,000 mortgage, you’d pay $1,350 annually. With the newly announced 50-basis-point reduction, that rate has dropped to .85%. So with that same loan amount, you’re now paying $850 for mortgage insurance, thus saving $500 per year.
David Altesleben, an FHA product manager at Quicken Loans, discussed the benefits of these changes for clients beyond the insurance savings.
“Reduced MIP results in an increase in a borrower’s purchasing power,” he said. “The less money a client needs to pay for MIP equals the more they can qualify for from a principal and interest standpoint.”
From a refinance perspective, clients with debt-to-income (DTI) ratios on the higher side may now be able to qualify because the fees associated with MIP have gone down.
There’s just one catch: The rate reduction in MIP only applies to loans with terms of more than 15 years.
Despite the insurance requirements, there are some definite advantages to FHA loans. Not only do they have lower down payment requirements, but clients with credit scores as low as 580 can be eligible for this loan option (although their DTI will likely have to be in really good shape to qualify).
3% Down on Conventional Loans
Last month, we talked about a 3% down payment program for first-time home buyers. Now, the program has expanded beyond first-time homebuyers to also include borrowers with moderate and lower incomes. This 30-year-fixed loan is a more affordable option than a traditional conventional loan which requires a 5% down payment.
Home buyers must fall within certain income limits to be eligible, and this option requires a higher credit score than FHA, but this could be a good deal for someone looking for an affordable mortgage. This option also allows homeowners to have their PMI removed once they have 20% equity in your home.
There’s also a nifty little trick to save on PMI. It stems from the fact that the loan to value ratio (LTV), a comparison of your loan amount with how much equity you’ve built up in your home, is calculated differently on a refinance than it is on a purchase.
Let’s imagine you have the following scenario:
(a). Loan amount: $200,000
(b.) Purchase Price: $220,000
(c.) Home value: $230,000
On a purchase, your LTV is your loan amount divided by the lower of the purchase price or the home value. In the example above, since the home was purchased for less than its value, A/B = 0.91 or 91%.
In a refinance situation, the LTV is always calculated by dividing the loan amount into the home value. In other words, A/C = 0.869 or roughly 87%. Since PMI can be taken off conventional loans once LTV is down to 80%, this is a better deal for the client. Refinancing means they can pay off PMI sooner even with the same rate and loan amount.
You can take advantage of this option for both purchase and rate/term refinances. Cash-out refinances are ineligible.
Do either of these options appeal to you? Let us know in the comments section.
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