Reader question: “I am confused about the private mortgage insurance that is (or maybe isn’t?) attached to FHA loans. I’ve read that these loans require PMI, and I’ve also read that they don’t. There seems to be a lot of conflicting information on this subject. I’m hoping you can be the definitive voice to clarify this for me. Does FHA require PMI / mortgage insurance for all borrowers who use the program?”
I think it’s the terminology that’s confusing you. Yes, the FHA requires borrowers to pay a mortgage insurance premium (two of them actually). But it is not called “PMI” because the policy comes from the government — not from the private sector.
That was the short answer. Here’s the long one…
FHA Does Not Require PMI
The FHA does not require PMI, because the ‘P’ stands for private. This type of insurance policy is used for conventional home loans (that are not insured by the federal government). PMI policies are arranged by the mortgage lender and provided by private-sector insurance companies.
With that being said, FHA does require a mortgage insurance premium to be paid by the borrower. Actually, they require two different premiums — but they’re not called PMI. Remember: P = private.
But They Do Require Mortgage Insurance
Borrowers who use an FHA-insured home loan to buy a house are required to pay:
- an upfront mortgage insurance premium (MIP) that’s 1.75% of the base loan amount, and
- an annual MIP that’s usually* 0.7% for a 15-year loan, or 0.85% for a 30-year loan.
* The upfront premium is generally the same for all loans. The annual premium, however, varies based on the length of the loan term (15-year vs. 30-year) and the size of the down payment. Most FHA borrowers choose the 30-year loan option and put down 3.5%. Therefore most borrowers end up paying the 0.85% annual MIP mentioned above. Both premiums can be “rolled” into the loan and paid monthly.
So, while FHA does not require PMI (a private mortgage insurance product), they do require borrowers to pay two different types of premiums — the upfront and annual MIP.
Think of this way: Almost all borrowers who make a low down payment will have to pay for some kind of mortgage insurance. Borrowers using a conventional (not government-insured) home loan have to pay PMI, which is provided by a private company. Borrowers who use an FHA-insured loan generally have to pay for the annual and upfront mortgage insurance premiums, which come from the Federal Housing Administration.
Always Compare the Full Cost of the Loan
As a borrower, you should evaluate the full cost of the loan product(s) you are considering. This includes the interest rate, lender and third-party fees, and the cost of mortgage insurance when applicable.
The FHA program has pros and cons. On the upside, it’s generally easier to get approved for an FHA-insured home loan, compared to a conventional mortgage product. The downside is that you have to pay those two insurance premiums mentioned earlier. There are other disadvantages as well.
Granted, if you can only afford a down payment in the 3% – 5% range, you’ll probably end up paying for mortgage insurance on a conventional loan as well. But it might not cost as much as the MIPs associated with an FHA loan. Borrowers with good credit could potentially save money by choosing a conventional loan (with PMI) rather than an FHA loan (with the two MIPs). But that’s not always the case.
The bottom line is that you have to consider the full cost of each loan product when you are comparison shopping. Do the math to see what works out best over the long run.
To re-answer the question at hand: No, FHA does not require PMI. That’s a private-sector mortgage insurance product. That’s what the ‘P’ stands for. But they do require borrowers to pay government-provided insurance, and this comes in the form of an upfront and annual premium.