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The annual cost of PMI varies and is expressed in terms of the total loan value in most cases, depending on the loan term, loan type, proportion of the total home value that is financed, the coverage amount, and the frequency of premium payments (monthly, annual, or single). The PMI may be payable up front, or it may be capitalized onto the loan in the case of single premium product. This type of insurance is usually only required if the downpayment is less than 20% of the sales price or appraised value (in other words, if the loan-to-value ratio (LTV) is 80% or more). Once the principal is reduced to 80% of value, the PMI is often no longer required. This can occur via the principal being paid down, via home value appreciation, or both. In the case of lender-paid MI, the term of the policy can vary based upon the type of coverage provide (either primary insurance, or some sort of pool insurance policy). Borrowers typically have no knowledge of any lender-paid MI, in fact most "No MI Required" loans actually have lender-paid MI, which is funded through a higher interest rate that the borrower pays.
Sometimes lenders will require that LMI be paid for a fixed period (for example, 2 or 3 years), even if the principal reaches 80% sooner than that. Legally, there is no obligation to allow the cancellation of MI until the loan has amortized to a 78% LTV ratio (based on the original purchase price). The cancellation request must come from the Servicer of the mortgage to the PMI company who issued the insurance. Often the Servicer will require a new appraisal to determine the LTV. The cost of mortgage insurance varies considerably based on several factors which include: loan amount, LTV, occupancy (primary, second home, investment property), documentation provided at loan origination, and most of all, credit score.
If a borrower has less than the 20% downpayment needed to avoid a mortgage insurance requirement, they might be able to make use of a second mortgage (sometimes referred to as a "piggy-back loan") to make up the difference. Two popular versions of this lending technique are the so-called 80/10/10 and 80/15/5 arrangements. Both involve obtaining a primary mortgage for 80% LTV. An 80/10/10 program uses a 10% LTV second mortgage with a 10% downpayment, and an 80/15/5 program uses a 15% LTV second mortgage with a 5% downpayment. Other combinations of second mortgage and downpayment amounts might also be available. One advantage of using these arrangements is that under United States tax law, mortgage interest payments may be deductible on the borrower's income taxes, whereas mortgage insurance premiums were not until 2007. In some situations, the all-in cost of borrowing may be cheaper using a piggy-back than by going with a single loan that includes borrower-paid or lender-paid MI.
LMI/PMI TAX DEDUCTION
Mortgage insurance became tax-deductible in 2007 in the USA. For some homeowners, the new law made it cheaper to get mortgage insurance than to get a 'piggyback' loan. The MI tax deductibility provision passed in 2006 provides for an itemized deduction for the cost of private mortgage insurance for homeowners earning up to $109,000 annually.
The original law was extended in 2007 to provide for a three-year deduction, effective for mortgage contracts issued after December 31, 2006 and before January 1, 2010. It does not apply to mortgage insurance contracts that were in existence prior to passage of the legislation.
AN UPDATE ON PMI TAX DEDUCTIONS
In December we published an article about a provision in the Tax Relief and Health Care Act of 2006 which was passed in the waning days of the 109th Congress (December 12, PMI Deduction Buried in the Closing Acts of Congress). The bill, H.R. 6111 contained, among dozens of other provisions and a boxcar of earmarks and pieces of pork, a section that would provide some tax relief to homeowners who were obliged, by virtue of down payments of less than 20 percent on their homes, to carry private mortgage insurance (PMI).
At that time the final version of the bill was not publicly available, nor is it now, but here is an update and the news is not quite as good for the taxpayer as it first appeared.
The House overwhelmingly approved H.R. 6111 on December 8 and the Senate passed corresponding legislation on December 9. The President signed the bill, probably on December 20, and it is now known as Public Law Number 109-432. As of January 25 the Government Printing Office had not produced a final printed copy of the bill.
At the time of our original article we noted that H.R. 6111 appeared to include provisions from H.R. (which stands for House Resolution) 6408 and Senate 132.
At the time it was presented to the House in early December it contained the following wording in Section 419:
Section 6050H of the Internal Revenue Code of 1986 (relating to mortgage interest) is amended by adding at the end the following new subsection:
In general. - Premiums paid or accrued for qualified mortgage insurance by a taxpayer during the taxable year in connection with acquisition indebtedness with respect to a qualified residence of the taxpayer shall be treated for purposes of this section as interest which is qualified residence interest.
We are relying on information on the law as signed by President Bush provided by BNA Tax Management a tax advisory site. According to BNA the following restrictions apply to what seemed like a general deduction for homeowners for private mortgage insurance premiums. These may have come about during conferences to resolve differences between House and Senate versions or may have been earlier defined by Section 6050H of the IRS Code to which Section 419 was appended.
The Act defines qualified mortgage insurance as that provided by the VA, the FHA, or the Rural Housing Administration or by private carriers and specifies that it be treated as interest on a qualified residence. This, however, is modified by the following "that premiums paid or accrued for qualified mortgage insurance by a taxpayer during the taxable year in connection with acquisition indebtedness". This is interpreted by BNA as meaning that the deduction is only available to homeowners who assume PMI payments during 2007. In other words, you may not qualify for the deduction if you bought a house subject to PMI in 2006 or earlier even though you are currently paying premiums.
Deductions seem to be further limited to 2007 by the following: no benefit will currently accrue to taxpayers for any amount paid or accrued beyond December 31 of this year "or properly allocable to any period after that date". We are not lawyers or tax authorities and we advise you, strongly, to consult your own tax professional, but it appears that this deduction is only available to taxpayers during the current calendar year and that paying premiums ahead as taxpayers are often advised to do with mortgage interest or property taxes at year end when deductions are needed will not work in this situation.
As we stated in our earlier article, the original House and Senate legislation was income-limited to $100,000 per household (or $50,000 for married homeowners filing separately) a provision that appeared to disappear from the bill that was finally voted on in December. BNA, however, states that this provision did survive into the final version and that the allowable deduction for PMI is phased out by 10 percent for each $1000 the taxpayers adjusted gross income exceeds $100,000 (or every $500 above $50,000 for the married who file separately.) This would mean that the deduction is not available for anyone with adjusted income exceeding $110,000 or $55,000.
So, it appears that few homebuyers will be eligible to use this PMI deduction and that it will only be available for 12 months. It seems strange that Congress would pass such limited legislation and interpretations could be different as corresponding IRS regulations are written. Still, if you buy a house or refinance this year make a mental note to alert your tax advisor to check on this small perk before you file for the tax year ending December 31, 2007. |
