Mortgage insurance is an insurance policy that protects a lender if the borrower defaults on payments, passes away, or is unable to meet the contractual obligations of the mortgage. If a borrower defaults on their mortgage payments, the mortgage insurance company pays back the loan. It is a guarantee of the principal.
Mortgage insurance is sometimes required for certain types of mortgages. The most popular being FHA Loans. FHA requires a loan have mortgage insurance on it. In fact, more often than not, if you put down less than 20%, you will have to pay mortgage insurance. Mortgage insurance is required when loans are high loan to value (LTV) because the loan is riskier. Having mortgage insurance spreads the risk of default between the lender and insurance company.
Each month when you make your mortgage payment, you will also make a mortgage insurance payment. The mortgage insurance is calculated as a percentage of the loan balance, usually between 0.5% – 1% paid annually. This amount varies, just like interest rates do, and depends on a number of factors.
You will make mortgage insurance payments until the language in your loan allows you to stop. This is usually triggered by a specific event. Most commonly paying down the loan balance to below 80% of the value of the home, including capital appreciation. For example, if you put 5% down on a $200,000 property (ie: $10k down), and then a year later it appreciates to $250,000, you’ve now got $60k equity in a $250,000 property, which is 24% and should satisfy the criteria of your lender. However each lender and each type of loan will have different criteria. For example, since 2014, most FHA loans started requiring mortgage insurance for the LIFETIME of the loan if the borrow put down less than 10%. Check with your lender for specifics.