By RMM Team
Mortgage Insurance Premium – MIP – Explained
Are you scratching your head, wondering what mortgage insurance is and why it's adding to your expenses? It's confusing, to be sure. If you're taking out a Federal Housing Administration (FHA) loan, chances are you'll need a mortgage insurance premium (MIP) to be set up. Also known as FHA mortgage insurance, it works to protect the lender from these higher-risk loans. As you learn how to buy a house, you may encounter these home loans, which typically have a lower interest rate and easier qualifications. Even with the requirement for MIP, FHA loans could still benefit you.
What Is an FHA Loan?
FHA loans are those backed by the federal government. The lender has protection if a buyer defaults on the loan, meaning they stop making payments as agreed. At that point, the lender can file a claim with FHA to recover some of its investment losses. That sounds ominous, doesn't it? It's not as bad as it seems.
Here there are many benefits to using FHA loans, typically meant for first-time home buyers. They tend to have lower mortgage rates because of this federal protection on them. FHA mortgage rates may be a percentage or two lower than what you pay for a conventional loan. At the same time, these loans have a lower down payment requirement (just 3.5% of the home's purchase price). Credit score requirements with an FHA mortgage also tend to be lower.
How Does MIP Work?
Lenders offering an FHA loan require the use of MIP. It helps to protect them from higher-risk borrowers or those they believe may be at a higher risk of defaulting on the loan. This could be due to credit scores, for example.
FHA loans don't require a large down payment. With many conventional loans, buyers must put down 20% of the home's sale price. If they don't do this, they have to pay private mortgage insurance, which is slightly different. With FHA loans, though, the limited down payment creates more risk to the lender. A person with less money in a home is more likely to stop making payments on it than someone who has put a lot of money into that loan.
FHA loan requirements, then, are that borrowers must obtain MIP. MIP costs include:
- 1.75% of the loan amount is paid upfront at the time of closing on the home
- 0.45 to 1.05% is paid each year as an annual payment (this amount is divided by 12, and that amount is applied to your monthly loan payment)
The actual amount you'll pay depends on several factors, including the amount you borrow and the term of the loan. Also important is the loan-to-value ratio, or how much your home is worth versus how much money you're putting down on it. The more you put down, the less your costs will be.
You must continue to pay MIP for the life of the loan unless you secured that loan before July 3, 2013, when these rules changed. Your other way out of MIP is to refinance the loan, but that is not always financially savvy.
Good news? You may be able to get a tax deduction for these costs. You can calculate insurance costs, but the lender will send you a statement including the amount paid. This is done through Form 1098.
How to Get an FHA Loan
When the time comes to determine if you're buying a home, you don't have to get your real estate license or take a course in lending. Your lender and real estate agent can help you navigate these terms and conditions.
To obtain an FHA loan, you'll need to apply with an FHA-approved lender. Many mortgage companies at local banks, credit unions, and specialized lenders offer FHA loans. They can tell you precisely what current terms are and provide mortgage rate predictions, giving insight into whether or not you should act right away to lock in a home loan or wait.
It's worth considering whether FHA loans fit your real estate investing strategies. If you're qualified for an FHA loan, you may be able to secure a lower interest rate on the loan. Thus, reducing how much you pay over the lifetime of the loan and for your monthly payment. It may also mean you'll pay less in down payments.
However, do some calculations to determine if real estate investing with the MIP requirement will cost you more. Work with your lender to determine what you can expect to pay in MIP now as an upfront cost as well as throughout the lifetime of the loan. Then, determine how much interest you would pay if you used a conventional loan instead.
Home Loans Explained
These mortgage insurance tips are just the start of the help available. If you're considering real estate investing, whether buying a home for yourself for the first time or not, it helps to have a trusted resource to use for more information and guidance. Let's face it; this is a huge decision with lots of opportunities to change your future in a good way. You'll want to get it right.
Contact our team for more insight and support. Find out what programs don't have MIP and how to get started.
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