SANTA CRUZ (March 13, 2010) - No one wants to pay for mortgage insurance but what most homebuyers do not realize is that no lender will loan more than 80 percent of the value of a property without mortgage insurance protection. Mortgage insurance protects the lender from a loss in the event the homebuyer fails to make the mortgage payments on time and the lender takes back the home and is unable to sell it for what is owed on it.

Mortgage insurance protects the lender but it is the borrower who must pay the premium. The rules differ between FHA insured loans and conventional loans. Both conventional and FHA loans require a monthly premium be paid with the mortgage payment. FHA also requires an upfront premium (which will be going up to 2.25 percent of the base loan amount next month); however this can either be paid as part of the closing costs or financed by increasing the loan amount to cover it.

Another difference between FHA and conventional financing is that all FHA loans require mortgage insurance, regardless of the down payment. Even if the down payment is 50 percent of the sales price, mortgage insurance would be required. Conventional loans will require mortgage insurance only when the lender is asked to loan more than 80 percent of the value of the home. FHA loans can go up to a maximum of $729,750 and these loans will finance up to 96.5 percent of the value of the home. While guidelines are in a constant state of flux, conventional financing may not be available for more than 85 or 90 percent of the value of the home.

In years past homeowners who have been paying mortgage insurance often ended up paying the premium until they refinanced or sold their homes because homeowners were responsible for requesting cancellation of mortgage insurance and they didn’t realize what the rules were regarding cancellation. This resulted in unnecessary annual premiums of $1,000 or more being paid for several years.

Under the new Homeowners’ Protection Act (HPA) both homeowners and lenders share the responsibility for how long mortgage insurance coverage will be required. In the case of FHA loans, mortgage insurance will be cancelled only when the loan balance drops to 78 percent of the original purchase price and at least five years have gone by. For conventional loans, mortgage insurance can be dropped after the loan balance drops to 80 percent of the original purchase price. In either case, homeowners must have had no mortgage lates in the past 12 months and it is recommended that the request be made in writing to the company currently servicing the loan. Rules and guidelines change and differ between different lenders. If you are now paying mortgage insurance, find out from your loan servicer what the conditions are for mortgage insurance cancellation. It could save you thousands of dollars.

This column is written every Saturday by Peter Boutell, Certified Mortgage Planner and a principal at Santa Cruz Home Finance. You may reach him at (831) 425-1250 of email him at Peter@SantaCruzHomeFinance.com.