The new federal law requiring cancellation of private mortgage insurance that takes effect Thursday should be considered nothing more than a fail-safe mechanism.
With decent appreciation, most borrowers who are required to pay for mortgage insurance because they are putting down less than 20% should be able to drop coverage well before the law's provisions kick in.
Under the new law, which applies only to loans closed on or after Thursday, lenders must cancel PMI at the borrower's written request if the loan is paid down to 80% of the original value of the house.
The borrower must be up to date on mortgage payments and have no other loans on the house, and the lender must be satisfied that the property's value has not declined.
Even if you forget to ask, though, the law requires that coverage must be terminated when your loan balance reaches 78% of the home's value when you bought it.
Again, you must be up to date on your payments. But even if you aren't current, coverage must be dropped when you catch up. And you don't have to lift a finger. Cancellation will be automatic.
Still, that won't occur until around the midpoint of your mortgage--say between the 12th and 15th year on a 30-year loan, depending on how much you borrowed and at what rate.
Fannie Mae and Freddie Mac keep mortgage money flowing by purchasing loans from local lenders. They don't buy every loan, but they are powerful enough that most lenders follow their edicts.
And the two government-chartered corporations have ordered lenders to terminate PMI based on current value as opposed to original value.
Freddie Mac won't even require you to pay $250 to $300 for an appraisal to determine what your home is worth. A simple price opinion from a real estate broker suffices.
Better yet, though the new law applies only to new borrowers, both companies have extended their rules to include loans already on the books.
Further, their new policies cover investment properties and second homes, not just primary residences.
"We believe homeowners should not have to pay for private mortgage insurance that is not necessary, including existing homeowners," said Robert Engelstad, Fannie Mae's senior vice president for credit policy.
Because Fannie Mae and Freddie Mac have revised their rules, the new PMI cancellation law should be considered nothing more than a backstop for forgetful or lazy homeowners.
The law "takes some of the crapshoot element out of it, but that's not a reason to leave everything on autopilot," said Brian Smith of America's Community Bankers, a trade association of savings institutions.
"Borrowers should always be proactive," agreed Vicki Vidal of the Mortgage Bankers Assn. "Call your lender to find out what the rules are."
Nevertheless, the new consumer-friendly cancellation law does go a long way toward explaining PMI and demystifying the termination process. It should remind you that you have coverage and that it can be dropped.
Under the new law, lenders are required to disclose your mortgage insurance options upfront and to explain the differences in cost for each choice.
For example, there are several ways to pay for PMI, including a single premium financed as part of the loan amount or monthly as part of your regular house payment. There's also a choice between borrower-paid and lender-paid coverage. If you opt to pay the premium, you can drop coverage later.
If the lender pays the premium, you won't be able to cancel. But the premium will be quoted as part of your mortgage rate, so the fee will be tax deductible. If you pay the premiums yourself, the cost is not considered interest and is not a write-off.
In addition, the law not only requires lenders to give you written notification at closing that you have mortgage insurance and that you have the right to cancel at a certain point, it also compels them to send you annual reminders that you have the right to terminate coverage once you meet the cancellation requirements.
But again, you shouldn't wait for lenders to discontinue coverage on your behalf. You should take the yearly notices as your cue to start looking into what your house is now worth.
Say you paid $100,000 for your place and took out a 30-year fixed-payment mortgage.
According to calculations provided by United Guaranty Insurance Co., one of eight firms that sell private mortgage insurance, if you put just 5% down and the house is appreciating in value at an annual rate of, say, 4%, you would build up enough equity to meet Fannie Mae and Freddie Mac's new rules after just 42 months.
There's a big difference between 42 months and 180 months, the midpoint on a 30-year loan. If you're paying $62 a month for insurance, which is the rate United Guaranty charges on a 7% mortgage, the savings would be $4,956 over the length of the loan.
Four percent appreciation is about normal in many parts of the country. But if you live in a place where housing is hot and appreciation is running at, say, 10%, the savings are even greater.
Incidentally, the new law does not apply to mortgages insured by the Federal Housing Administration. FHA insurance is not cancelable and premiums must be paid for 13 years. But under rules that take effect Sept. 2, lenders will have to disclose to borrowers how the cost of FHA insurance compares with private coverage.