How can I stop paying private mortgage insurance?

By Sabrina Karl

If you took out your current mortgage with less than a 20 percent down payment, you’re almost certainly paying for private mortgage insurance (PMI) every month. While PMI serves a welcome purpose for those who otherwise wouldn’t be able to buy a home, it’s an added expense that’s best dropped as soon as possible.

In essence, PMI is an extra fee homebuyers pay to make the lender willing to extend a mortgage when the down payment is small. If the homeowner defaults, private mortgage insurance covers most of the bank’s loss.

For any new or refinanced mortgage of more than 80 percent of the home’s appraised value, PMI is calculated during the closing process and generally broken into monthly amounts that are tacked onto the monthly mortgage payment. So when PMI can be eliminated, the monthly payment drops.

For conventional mortgages, the Consumer Financial Protection Bureau allows homeowners to request PMI elimination once their mortgage balance falls to 80 percent of the home’s value. This can occur over the course of normal mortgage payments, or more quickly if the homeowner makes extra payments. It can also occur if the value of the home has risen substantially due to market conditions or significant improvements made by the homeowner.

In order to cancel PMI at the 80 percent threshold, homeowners must make the request in writing, be current on their payments, and have a good payment history. They may also be required to prove there are no additional liens on the property, or to pay for a new appraisal.

There is one additional way to eliminate PMI, and that’s to simply wait until the mortgage falls to 78 percent of the home’s original value. At that threshold, lenders must automatically cancel PMI, though only if the mortgage is current on its payments.

How are ARM rates calculated?

By Sabrina Karl

Adjustable rate mortgages, or ARMs, can be attractive for homebuyers who don’t expect to stay in their house for the long haul or who think interest rates will be lower in the future. But since plans often change, and rates are virtually impossible to predict, it’s important to understand how ARM rates adjust.

Each ARM has an initial period and an adjustment period. The initial period is typically 3, 5, 7 or 10 years during which the rate is fixed. But after that, the rate will change according to its adjustment period. For example, a 5/1 ARM will remain fixed for five years, then adjust every year after that.

Two terms in an ARM’s fine print tell you how the new rate will be calculated: the index and the margin. The index is a market benchmark to which your rate is formally pegged. Many ARMs use the 12-month LIBOR index, but there are several others. Each ARM will name the index with which it is linked, and that index will fluctuate with market conditions.

The margin, on the other hand, is fixed and serves as an add-on to the index. So if an ARM’s margin is 3%, and the 12-month LIBOR index is 2.25% at adjustment time, the new rate would be 5.25% (2.25% index + 3% margin).

Two more ARM terms can also come into play. One is the rate adjustment cap, which limits how much the rate can move with any one adjustment. The other is the maximum rate, which specifies the very highest it can rise over the life of the loan.

Anyone considering an ARM will want to carefully compare different products according to index and margin rates, as well as adjustment caps and maximums, as digging into these details can help differentiate between otherwise similar-seeming ARMs.

Making sense of closing costs

By Sabrina Karl

Even if you’ve closed on a mortgage before, each time can be a confusing process. In addition to the endless forms and required signatures, you’ll also face a wide variety of fees that get lumped together in the nondescript phrase “closing costs”.

So what’s included in closing costs? The list varies widely since each state, and even some municipalities, have their own rules about certain fees. But in general, closing costs run two to five percent of a home’s purchase price.

Several of the costs are fees for required services: an appraisal to establish the home’s market value; a title search to determine if the deed is free and clear; an underwriting fee to cover the lender’s cost in deciding they’d lend to you; an application or loan origination fee to cover processing your application; recording fees to file the proper paperwork after the loan is complete; and any commissions to involved real estate brokers.

But closing costs also include installments for the ongoing costs of your mortgage, such as property taxes to cover a prorated portion of the year; homeowner’s insurance, generally for a full year; any points that your mortgage agreement involves; and, if you’re making a down payment below 20 percent, a prorated share of private mortgage insurance.

Because states and home mortgages vary so much, including what different lenders are willing to cover, several additional costs could appear in your closing, such as fees for a survey, for pulling your credit report, or for wire transfers. Some buyers will also pay at closing for their home inspection or an optional home warranty.

A short time before closing, you’ll receive a Closing Disclosure with the exact figures on everything you’ll be required to pay. Review this carefully and talk with your lender about any costs you don’t understand.

Should I refinance to pay for college?

By Sabrina Karl

If you’re like many parents with a college-bound child, what you hold in savings may not be enough to cover four years’ tuition. So as you contemplate how to cover the shortfall, should you consider tapping into your home equity?

Refinancing your mortgage or applying for a home equity line of credit can be tempting, since interest rates on these tend to be significantly lower than student, parent and personal loans. They’re also fairly easy to access as long as you have a decent credit score and more than 20 percent equity in your home.

But just because you can tap home equity for college doesn’t mean you should. The biggest argument against doing so is that taking any loan out against your home requires offering your house as collateral. Should you have trouble repaying that debt in the future, your ownership of the home can be jeopardized.

Contrast that to parent or personal loans, or student loans your child takes out. Although these will carry higher rates, they aren’t secured by your home. Some education-oriented loans also offer flexibility for repayment should you fall on hard times, with policies for temporarily deferring payments or even forgiving the loan.

If you still decide that tapping home equity is your best avenue for making college ends meet, note that a home equity line of credit may be better for families applying for financial aid, since a cash-out refinance can hurt your eligibility calculation. You can also run into financial aid ramifications with home equity lines of credit, if you don’t time your withdrawals carefully.

As with many tempting uses of your home equity, putting your house on the line can be a risky proposition. So you owe it to yourself and your future to carefully consider all of the available options.

What is a rate lock?

By Sabrina Karl

Whether you’re shopping for a new mortgage or simply refinancing, a rate lock is a useful feature to consider, allowing you to remove some risk and uncertainty from the home loan process.

Because mortgage rates fluctuate daily, the APR you’re quoted this week might not be available in three or four weeks when you close your mortgage. If it’s lower, lucky you. But what if it’s higher, and now your monthly payment has increased? Even worse is when that higher monthly payment means you no longer qualify for the same loan amount.

This is why rate locks exist, to protect homebuyers from market changes by locking in a rate that works for them, and knowing throughout the processing period that there won’t be any rate surprises.

Mortgage lenders typically offer locks for 30, 45 or 60 days, so the window for holding your rate and completing the closing isn’t unlimited. This means you won’t want to activate a lock too early in your house hunting process. A good time is when you have an accepted offer on a house.

Why not just ask for the longest rate lock possible? Because rate locks aren’t free. True, some lenders provide locks without charging a separate fee, but their cost of absorbing the risk is baked into their offered interest rate. Meanwhile, other lenders do charge an explicit fee. In either case, longer locks will cost you more. 

So what if rates drop after you lock in? Though some lenders offer the option of a “float down” provision to take advantage of new lower rates, these also aren’t free, and can be expensive. It’s better to simply lock your rate at a comfortable level, rest easy that you’re protected, and not sweat the minor savings you’d have realized with a slightly lower rate.

Refinancing to lower your monthly payment

By Sabrina Karl

If your mortgage payment is feeling a little too hefty every month — either because your financial situation has changed or you took on too much when you signed the dotted line — refinancing can potentially lower your monthly burden. But it requires the right circumstances to be a good solution.

The most obvious opportunity is when current rates are lower than your existing APR. A common rule of thumb is that refinancing to at least a half percentage point below your current rate can be cost effective, and a lower rate means lower payments.

If a sufficient rate reduction isn’t in the cards, but you’ve acquired an inheritance, a large bonus or another windfall, you can lower your bill by refinancing with a bigger down payment. By applying your windfall to the new mortgage, you convert the cash to home equity and can refinance a lower amount.

You can also reduce your payment by refinancing to a longer loan or an interest-only mortgage. These are better left as last resorts, though, since they’ll either stretch out how long you’re on the hook for a mortgage or leave you in worse financial shape in the end. But if you’re in dire straits to make ends meet, it’s an option that may keep you out of hotter water.

Note that if you’re currently paying private mortgage insurance and have built up at least 20 percent equity, refinancing isn’t necessary to lower your payments. Simply contact your lender to request the PMI charges be terminated.

In all cases, refinancing will require having a decent credit score. And if you’re several years into your current mortgage, refinancing can add years to your repayment period, which may not be desirable. As always, research the costs and trade-offs carefully to decide your own best option.

Do I have to buy private mortgage insurance?

By Sabrina Karl

Usually when we buy insurance, we’re protecting ourselves against an otherwise devastating financial loss, such as the cost to replace a home or vehicle, or the cost of medical bills should we become seriously ill or injured. But for homeowners buying private mortgage insurance, it’s not about protecting yourself.

Often called PMI, private mortgage insurance is actually an insurance policy for mortgage lenders, even though homeowners pay the premium. It financially protects the lender from losing money should the homeowner default on their mortgage. And for certain homebuyers, it’s not optional.

Any buyer who takes out a conventional mortgage with a down payment of less than 20 percent is required to hold PMI. That’s because mortgage statistics show that the less equity a homeowner has in their property, the higher their risk of default. Once equity surpasses 20 percent, the risk of foreclosure drops significantly.

Private mortgage insurance is most commonly handled as a monthly premium bundled with the mortgage payment. However, some lenders offer an option to pay for PMI in one lump sum at closing, or in a combination of upfront and monthly payments.

PMI costs vary based on two main factors: the borrower’s credit rating and the amount of their down payment. Costs typically range from 0.5% to 1.0% of the original loan amount per year. So for a $200,000 mortgage, PMI would likely cost $1,000 to $2,000 annually, or $83.33 to $166.66 a month.

To avoid this monthly add-on, some homebuyers will save longer before buying so they can swing a 20 percent down payment, while others opt for FHA or other non-conventional mortgages that don’t require PMI. But these mortgages can carry higher rates, and waiting to purchase isn’t always desirable. So PMI offers homebuyers an option that they can weigh against the alternatives.

Should I tap my home equity to pay off debt?

By Sabrina Karl

With credit card rates averaging over 16% and the national average for 30-year mortgages running in the mid 4% range, it’s easy to see why homeowners consider tapping home equity to pay off other, costlier debt. But it’s a risky maneuver that shouldn’t be taken lightly, and in some cases, should be avoided altogether.

First, it’s important to realize that paying off credit cards or any other debt with home equity doesn’t actually pay anything off. It only shifts your debt around.

Also, the move is unwise if it’ll drop your home equity below 80%, as you’ll then be hit with expensive private mortgage insurance, which would erase any gains you’re aiming for by refinancing.

You’ll also need to weigh the closing costs you’ll be charged. And recognize that although your expensive debt will move to a significantly lower rate, you’ll now be stretching it over 15 or more years. That means you may actually pay even more for those credit card expenses in the end.

The risk to your home is another serious consideration. Unlike card debt, mortgages and home equity loans are secured with your home as collateral. Default on your mortgage and your house could be in jeopardy. So it’s critical you can reliably afford the new monthly payment, as there is no “minimum payment” fallback on mortgages.

If you can get a lower mortgage rate or shorter term than you currently have, then “cash-out” refinancing to pay off debt can work. But it’s a much more dubious play if your rate or term will increase.

In that case, you’re better off adding a home equity loan that’s dedicated to paying off your expensive debt. Or, just keeping the card debt as is, but with a new vengeance to pay it off as aggressively as you can.

Should I consider an adjustable rate mortgage?

By Sabrina Karl

Anyone who’s ever shopped for a home loan knows they come in two main flavors: fixed rate and adjustable rate mortgages, or ARMs. While traditional 30-year fixed mortgages have long been a homeowner favorite, sometimes an ARM can be a smart move.

Here’s how ARMs work. For a period of years – usually 3, 5, 7 or 10 – the mortgage behaves like a standard fixed-rate loan. You’ll know your rate upfront and it won’t change during that initial period.

After that, your lender can adjust your rate, raising it if national rates have moved higher, or lowering it if rates have dropped. Therein likes the risk with ARMs since no one can reliably predict where rates will move several years in the future.

Of course, you’ll earn a trade-off in exchange for an ARM’s risk. You’ll notice that ARM rates are noticeably lower than 30-year fixed rates. So while they are less predictable over time, you’ll be guaranteed to pay a lower rate for the initial period.

That means an ARM could be a wise choice if you expect to stay in your home less than the number of years in the ARM’s fixed period.

But if your expectations prove wrong and you live in the home long enough to reach your ARM’s adjustable period, you’ll find yourself at the mercy of current market rates. Right now, rates are forecasted to be on an upswing given the Federal Reserve’s movements. But after that, it’s impossible to know where rates will be headed.

In the end, adjustable rate mortgages are an easy choice when you know you won’t live in your home for the long haul. But if you’re like the many homebuyers who aren’t sure how long they’ll stay, a fixed-rate mortgage can be the safer and more penny-wise move.

Is my property tax still deductible? What about mortgage interest?

By Sabrina Karl

Now that the dust has settled on Congress’ new tax plan, let’s look at what the final version means for homeowners.

Starting with the 2018 tax year, the bill changes how much we can deduct for three homeownership expenses: property taxes, mortgage interest and home equity interest.

Property taxes have seen the most press because the change here is significant. Previously, any amount of state and local income taxes was deductible if you itemized deductions, as is common for homeowners. This includes any state income tax, sales taxes and, most importantly here, real estate tax on your primary residence.

In the new plan, however, the allowable deduction for the sum of these taxes is capped at $10,000. So if what you pay for property tax plus your state’s income and sales tax exceeds that amount, the payments above $10,000 are no longer deductible.

The other significant homeowner deduction goes to those with a mortgage or home equity loan, allowing you to deduct interest paid on that debt. In the new bill, mortgages and home equity debt diverge, and your mortgage date will determine how much interest is deductible.

For mortgages originated before Dec. 15, 2017, there’s no change – you can deduct all interest incurred on a debt up to $1 million. But on mortgages taken out Dec. 15, 2017 or later, you can only deduct interest on loan amounts up to $750,000.

The treatment of home equity debt is changing more starkly. Starting with your 2018 taxes, the deduction for interest paid on home equity loans or lines of credit has been eliminated.

It’s important to note that although homeownership deductions are being diminished, the tax bill includes other potentially offsetting changes. So whether your 2018 tax bill increases or decreases will vary widely by region and individual situation.