Is private mortgage insurance worth it? Maybe not. Here's why.
If you're thinking about buying a home with a conventional loan, there's a good reason to consider making a sizable down payment. Unlike an FHA, VA, or USDA loan, a conventional loan is one without government backing. When you obtain a conventional home loan without a 20% down payment, you typically end up paying private mortgage insurance (PMI).
Here are three big reasons why you don't want to pay for this insurance coverage.
1. It adds to your monthly payments
When your mortgage lender requires PMI, the amount is generally added on to your monthly mortgage payments. PMI typically costs anywhere from 0.5% to 1% of your total mortgage loan amount. If you borrowed $350,000, that would mean your PMI payments could add as much as $292 to your monthly cost.
This added expense can affect your debt-to-income ratio and make it harder to qualify for a mortgage loan. It's also money you can't use for other things, such as saving for retirement.
2. It protects the lender but does nothing to protect you
Insurance premiums are typically worth paying because they provide you with protection. After all, you don't want to go without car insurance or homeowners insurance and face catastrophic losses if you get into a crash or your house burns down.
Unfortunately, PMI is an exception. It provides protection from loss -- but for the mortgage lender, not you. If your lender has to foreclose and can't sell your house for enough to cover the total amount you owe, PMI ensures the lender is made whole. But it doesn't do anything to protect you at all. You will still face foreclosure if you can't make payments, and if you lose money in the process, you'll be out of luck.
3. It's not always tax deductible
Mortgage insurance is sometimes tax deductible. Eligibility to take a deduction for PMI had initially expired in 2017. However, the Further Consolidated Appropriations Act, 2020 extended the deduction through 2020. It's not yet clear if it'll still be deductible in 2021.
And in order to claim a deduction for PMI, you must itemize on your taxes. After the Tax Cuts and Jobs Act passed in 2017, the standard deduction was increased so much that many fewer people itemize. Many of those who still claim itemized deductions are high earners. But eligibility for the PMI deduction begins to phase out with an income of $100,000, with those who earn over $109,000 not eligible to claim it at all.
Unfortunately, once you put down less than 20% and end up paying PMI, you will typically have to pay it for a long time -- and that won't change if you lose the ability to deduct premiums. Without the tax savings, the cost becomes even more of a burden, making it more important to try to avoid taking on this added expense.
Of course, you may decide that the higher monthly payments are worth being able to get into a house without a large down payment -- even if you'll be paying for insurance that doesn't protect you and may not get you a tax deduction. But just make sure you're aware of all the considerable downsides of PMI before you jump into taking a mortgage loan that requires it.
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