The basics of private mortgage insurance (PMI)

If your down payment on a home is less than 20 percent of the appraised value or sale price, your lender will require you to get mortgage insurance. A mortgage insurance policy protects your lender in case you default on the payments. As a borrower, you pay the premiums, and the lender is the beneficiary.

There are two types of mortgage insurers: government and private. The main government mortgage insurer is the Federal Housing Administration. Several corporations underwrite private mortgage insurance, often called PMI.

PMI fees vary, depending on the size of the down payment and the loan, from around 0.3 percent to 1.15 percent of the original loan amount per year. Mortgage insurance premiums are tax-deductible through 2013, and it is possible that Congress could extend deductibility longer than that.

Let’s say you buy a $175,000 house and make a 10 percent down payment, meaning that you borrow $157,500. The mortgage insurer charges an annual premium of 0.49 percent. The insurer multiplies the loan amount by 0.0049, for an annual premium of $771.75, which is divided into 12 monthly payments of $64.31.

Keep track of your payments on the principal of the mortgage. When you reach the point where the loan-to-value ratio hits 80 percent, notify the lender that it is time to discontinue the PMI premiums. Federal law requires lenders to tell the buyer at closing how many years and months it will take for them to reach that 80 percent level and cancel PMI. Lenders must automatically cancel PMI when the balance hits 78 percent.

Some FHA loans require payment of mortgage insurance premiums for the life of the loan.