Pros & Cons of Mortgage Insurance

Higher Loan to Value

Most mortgage lenders in the United States will not lend you more than 80 percent of the value of the property you wish to buy unless you take out private mortgage insurance. One advantage of taking out private mortgage insurance is that some lenders may then allow you to borrow more than 80 percent of the value of the property, so you do not need to put so much money down as a deposit. However, lenders often offer an alternative to private mortgage insurance, whereby they allow you to borrow more than 80 percent of the value of the property by taking out a second loan for the additional funds. The lender will allow you to borrow the extra funds but at a higher rate of interest. You should check to see if the premiums you will pay over the lifetime of the mortgage are likely to work out less than the cost of the higher interest you will pay for borrowing additional funds at a higher rate.

If you need to borrow more than 80 percent of the value of the property you wish to buy, a downside of taking out the private mortgage insurance that you lender is likely to require is that the insurance payments are not tax deductible if you earn more than $109,000. If you borrow the additional funds that you need at a higher rate of interest, you may find that the higher interest payments, added to the fact that those interest payments are tax deductible, will cost you less than the premiums you pay for private mortgage insurance initially. Private mortgage insurance offers no tax advantage for higher earners, while the interest charged on a second loan does.

For loans taken out after July 29, 1999, private mortgage insurance must be canceled automatically when the remaining value of your loan represents no more than 78 percent of the value of the property secured against it. If the value of your property stays the same, you will no longer have to pay private mortgage insurance premiums once you have paid off 22 percent of the loan. You can elect to cancel private mortgage insurance when the value of the loan reduces to 80 percent of the value of your property, but this does not happen automatically. If you borrowed more than 80 percent of the value of your property but chose to take a higher interest rate, you will have to pay the higher interest rate over the life of the loan.

If property prices are rising, it might be to your advantage to take out private mortgage insurance to secure your additional funds, rather than take a loan at a higher rate of interest. Because you can elect to cancel private mortgage insurance once the outstanding amount of the loan reduces to 80 percent of the value of the property, a rise in property prices may make this happen quickly. If you paid a 5 percent deposit on your property, your loan represents 95 percent of the value of the property. If the property increases in value at a rate of 5 percent per year, you will be able to cancel the insurance in less than three years because your capital repayments plus the increase in the value of the property will allow you to elect to cancel it. Your debt will represent less than 80 percent of the value of the property by this time because of the rise in the property's value. You would still be paying a higher interest rate on a loan if you had not elected to take out private mortgage insurance.