In order to create more stability and security for lenders who offer up purchase capital in good faith, homebuyers are often required to purchase mortgage insurance.

While the concept of mortgage insurance has been around in the United States since 1880, the systems and laws that govern the practice have gone through several evolutions, and only achieved their current standards in 1961. With today’s housing market still not fully stabilized from recent fluctuations, mortgage insurance is an essential tool for recovery.

Mortgage insurance works on many of the same principles as other insurance policies, by collecting premiums that will be used to pay out the beneficiary—in this case, the lender—in case the borrower defaults. Generally, mortgage brokers require that such insurance be purchased when the loan exceeds 80% of the property purchase price (meaning that the homebuyer has put down less than 20% for a down payment). The mortgage broker and mortgage insurer agree on coverage—the amount of loss that the insurer will pay for if the borrower defaults and the property must be sold at a loss. For example, a mortgage insurance policy may cover the first 25% of losses, and the lender will remain responsible for the remainder. Typically, the mortgage insurance is borrower-paid (BPMI), although in some instances it may be lender-paid (LPMI) with the cost of the premium being built into the interest rates charged on the loan. A BPMI policy can, by law, be canceled once the borrower has paid off an agreed-upon amount of the loan, or when a certain date in the mortgage schedule has been reached.

Typically, mortgage insurance comes either from private mortgage insurers or through the Federal Housing Authority. Private mortgage insurers operate with individual sets of guidelines, and their interest rates can vary from anywhere between 1-6%, depending on factors such as the amount of coverage and the homebuyer’s credit score. FHA, or “public” mortgage insurance is fixed at 1.75%, and tends to be an LPMI, with the costs of the premium collected from the borrower in other ways.

By providing lenders with extra security, more homebuyers can be given the opportunity to participate in the market, which leads to a strengthened industry.

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