Relative to the growth in home prices over the last quarter century, Americans are earning less and, as a result, saving less. This means young families today are having to wait longer than their parents and grandparents before clearing that great barrier to homeownership -- the down payment.
For these young families, low down payment home mortgages -- loans with less than 20 percent down payments -- offer an opportunity to shorten that wait. As such, their popularity has boomed. The government reports that in 1994 nearly one of every two homebuyers obtained a low down payment loan; and many of them used private mortgage insurance (MI) to realize their homeownership dream.
Still, confusion about the role of private MI abounds. "What is it?" and "What does it do for me?" are questions typically asked by consumers. Private MI enhances a borrower's ability to attain a homeownership situation that is right for them. Not only can private MI help put people in homes, but it can help put people in homes in which they want to live.
Lenders require private MI on most conventional mortgages because experience reveals a strong correlation between borrower equity and default. The less money a borrower has invested in a home, the greater the probability of default. Thus, private MI is a financial guaranty that protects lenders against loss in the event that a borrower defaults. Without that financial guaranty, lenders will typically require a down payment of at least 20 percent.
A recent Chicago Title and Trust study notes that first-time homebuyers in 1994 spent three years saving for a down payment before buying. And when they finally did buy, the average down payment was 13.7 percent. Had they gone without mortgage insurance and saved for the requisite 20 percent down payment, these first-timers would have been renting for a minimum of four-and-a-half more years. On the flipside, had they been willing to put only five percent down, they could have realized their homeownership dream in just over a year.
By waiting and going with mortgage insurance, though, these first-timers increased their buying power. For example, $5,000 is equal to a 10 percent down payment on a $50,000 home; but it is also sufficient for a five percent down payment on a $100,000 home. Another scenario: $10,000 may constitute a 20 percent down payment on a $50,000 home; but it can also provide enough financial leverage to help qualifying borrowers buy a $200,000 home with only five percent down.
This is the value of private mortgage insurance -- it is the reason so many young families today can afford homeownership despite earning and saving relatively less than their parents.
Unfortunately, some people continue to confuse private mortgage insurance with mortgage life insurance. Private mortgage insurance puts people in homes; mortgage life insurance pays all or a portion of your mortgage in the event of your death.
Consumers who understand this difference, understand how private MI enhances their ability to realize their dream of homeownership.