Legal Definitions - PMI

PMI stands for Private Mortgage Insurance. It is a specific type of insurance policy that protects the mortgage lender if a borrower stops making their loan payments and defaults on a conventional home loan. Lenders typically require borrowers to purchase PMI when they make a down payment of less than 20% of the home's purchase price. While the borrower pays the premiums for PMI, the insurance primarily benefits the lender by reducing their risk, which in turn allows borrowers to qualify for a mortgage with a lower upfront down payment.

Here are some examples illustrating how Private Mortgage Insurance works:

• Example 1: First-Time Homebuyer with Limited Savings
  Sarah and Tom are excited to buy their first home, priced at $300,000. They have diligently saved $30,000 for a down payment, which is 10% of the purchase price. Because their down payment is less than 20%, their lender requires them to pay for PMI. This allows them to secure the mortgage and become homeowners without having to save an additional $30,000 to reach the 20% down payment threshold.

  This illustrates PMI because the insurance policy enables Sarah and Tom to purchase a home with a smaller down payment (10% instead of 20%), while simultaneously protecting the lender from potential losses if the couple were to default on their loan.

• Example 2: Professional Relocating for a New Job
  David needs to relocate quickly for a new job opportunity and wants to buy a house in his new city for $450,000. He has $75,000 readily available for a down payment, which is approximately 16.7% of the home's value. To avoid liquidating other investments that would take time and potentially incur penalties, he opts for this down payment amount. His mortgage lender requires PMI due to the down payment being under 20%.

  This example demonstrates PMI's role in facilitating home purchases with less than 20% down. David can quickly buy a home without fully depleting his other assets, and the lender's risk is mitigated by the PMI policy.

• Example 3: Refinancing an Existing Mortgage with Lower Equity
  Maria wants to refinance her existing $250,000 mortgage to take advantage of lower interest rates. However, her home's current market value is $290,000, meaning her equity is only about 13.8% ($40,000) of the home's value. The new lender offering the refinance requires her to pay PMI on the new loan because her equity position is less than 20% of the home's value.

  Here, PMI is required during a refinance because Maria's equity in the home is below the 20% threshold. The insurance protects the new lender, allowing Maria to secure a more favorable interest rate even without a substantial equity stake.