One of the more challenging things about mortgage financing is that we can not generally, with the exception of USDA and VA loans, lend on 100% of the value of a property. That means that a down payment is required for most transactions. This down payment can take many forms: Cash is the most common, however, we can also accept funds from a blood relative or close friend in the form of a gift. We can also utilize funds from Down payment assistance programs. The minimum down payment needed to purchase a home with the above two exceptions (VA and USDA) is 3%. Most first time homebuyers are in a position to put this amount down.
There is one very important thing to realize when you put less than 20% down on a property. That is, you will have to pay mortgage insurance in one form or another. The reason I say one form or another, is that, there are programs available that advertise that they do not have mortgage insurance. This is not 100% correct. The loan itself will not have mortgage insurance, but you are paying a premium in your interest rate to avoid this.
So what is a better program to go with? Mortgage insurance or no mortgage insurance? We’ll let’s take a deeper look at Mortgage insurance. So what does mortgage insurance pay for, let’s see, NOTHING! That right, nothing. A mortgage insurance payment does not benefit the homeowner one bit. Mortgage insurance is designed to cover the banks losses in the event others that the banks lend on go into foreclosure. Well that’s reassuring, right?
The fact still remains that it is there and if you are putting less than 20% down, you will have to have this conversation with your mortgage banker at some point. There are two main options available for mortgage insurance. The first option is the typical set up where there is a payment for the mortgage insurance on each payment as a separate line item. The advantage of this type of mortgage insurance is that once you reach a loan to value of 80% or below on a conventional you can petition to get the mortgage insurance removed. This is a very attractive option if you are going to be staying in the home for a longer time period. (This is for conventional financing)
The other option is to build the MI into the rate. Basically, what this means is that you take a higher rate to eliminate the monthly payment of mortgage insurance. The down side to this approach is obvious, as the rate on the mortgage note will be substantially higher than the other option for MI. However, this is an option that would actually lower the monthly payment initially. Were it not for this benefit, this route would not be a very appealing option.
In conclusion, it is my opinion that if you are going to stay in the home long term, taking the monthly payment makes more sense because you will be able to get the mortgage insurance removed. If you are staying in a property short term or you are not sure, you may want to look at the other option of building the MI into your rate.