The Federal Housing Administration's government mortgage insurance allows lenders in the private sector to make more home loans. By insuring mortgages for lenders in the event that FHA borrowers default, lenders can feel more confident lending to more applicants. The FHA's qualifying guidelines are generally more forgiving of credit challenges. Furthermore, borrowers with moderate incomes and modest down payments often have an easier time qualifying for FHA loans than conventional financing. The flexibility offered by FHA loans comes at a cost to the borrower: specifically, a mortgage insurance premium, or MIP. MIP rates are subject to change from time to time. Currently, the FHA's MIP rates range from .80 percent to 1.05 percent on most FHA loans.
FHA annual mortgage insurance premium rates change periodically, depending on the status of the FHA's reserves, potential market conditions and the overall global economy. Your FHA down payment amount as well as the loan amount and the length of the loan term all affect the cost of the MIP on an FHA loan.
Considering the Costs of MIP
Many potential FHA borrowers want to know what MIP costs are before borrowing. Knowing an FHA loan's MIP amount prior to applying can help you determine whether the flexibility allotted by the FHA is worth the added monthly cost of the mortgage insurance. If the monthly MIP is too high for you, you can opt for conventional financing. Conventional financing is nongovernment insured, but it may also require a type of mortgage insurance known as private mortgage insurance, or PMI. Conventional financing may also require a higher down payment and have more stringent qualifying guidelines. The PMI that comes with conventional loans should not be confused with the MIP that comes with FHA loans, as PMI rates differ from MIP rates, and PMI works a bit differently.
What's MIP About?
The MIP rate at the time you take out an FHA-insured loan directly impacts your monthly payments. In addition to paying the principal and interest on an FHA loan, the lender or loan servicer also charges monthly MIP for a certain amount of time, usually the life of the loan. Your loan is subject to one of various MIP rates depending on multiple factors in your loan scenario at the time of application for the FHA loan. Borrowers pay MIP on all FHA loans regardless of the amount financed, the down payment amount or the borrower's qualifications. MIPs are a necessary part of FHA financing, and you likely will have to pay for the insurance as long as you have the loan.
Loan Term Impacts MIP Rates
FHA loans are generally split into significant categories that have drastically different MIP rates. Most borrowers fall into the first category: the mortgage term of more than 15 years. Usually, FHA borrowers and mortgage borrowers in general finance a home for 30 years. A 30-year repayment term is the longest loan term you can get on an FHA loan, and it yields the lowest monthly payment. That's because the loan repayment is amortized, or spread out, over 360 months (30 years). The second category is the mortgage term of 15 years or less. Fewer homeowners fall into this category because it results in higher monthly payments, which are spread out over only 180 months (15 years). Although favorable because it lets you pay off your loan quicker, 15-year terms usually aren't popular among cash-strapped FHA borrowers when buying a home.
Currently, 30-year borrowers have higher MIP rates than 15-year borrowers because they carry a higher level of risk for the lender and subsequently the FHA. Borrowers have more time to repay their loan, but that also means that they have more time and opportunity to default over the course of the loan's repayment. MIP rates for borrowers with mortgages over 15 years are subject to MIP rates between .80 percent and 1.05 percent. Borrowers on 15-year loans or less are subject to MIP rates between .45 percent and .95 percent.
Loan Amount Effect on MIP Rates
The FHA also offers different MIP rates for borrowers based on the loan amount. MIP rates differ dramatically for borrowers who take out loans greater than $625,500. FHA borrowers with loan amounts less than or equal to $625,500 receive the lowest MIP rates. FHA borrowers in San Francisco's high-priced housing market can typically expect to take out an FHA loan greater than $625,500, whereas borrowers in most areas of the country need loan amounts far less than $625,500 to afford a median-priced home.
Currently, FHA borrowers with 30-year mortgages receive MIP rates of .80 percent to .85 percent when financing $625,500 or less, and 1 percent to 1.05 percent when financing more than this threshold. Borrowers with mortgage loan amounts less than or equal to $625,500 can expect MIP rates of .45 percent or .70 percent on a 15-year loan. Fifteen-year borrowers with loans exceeding $625,500 receive MIP rates of .45 percent to .95 percent.
Loan-to-Value, Down Payment and MIP Rates
A mortgage's loan-to-value, or LTV, has a major bearing on the MIP rate FHA borrowers receive. LTV compares the loan amount to a high-cost home's value and expresses it as a percentage. The higher the LTV, the more the borrower has leveraged, or financed, against the home's value, and the riskier the loan. The FHA makes high-LTV loans possible, which is why the government-insured program is often popular among borrowers of modest means. High-LTV loans require lower down payments when purchasing or less equity when refinancing.
The FHA requires a minimum down payment of 3.5 percent for homebuyers. FHA loans usually in turn have LTVs of 96.5 percent. High-LTV loans come with the highest MIP rates because the risk of default is greater when a borrower is highly leveraged. Therefore, FHA borrowers are usually subject to the higher end of the MIP rates. For example, a typical 30-year FHA borrower in the U.S. who is buying with a 3.5 percent down payment in a non-high-cost city can expect a MIP rate of .80 percent or .85 percent. A typical homebuyer in a high-cost city such as San Francisco, however, will likely receive a MIP rate of 1 percent or 1.05 percent.
MIP in Simple Math
Say you purchase a property in the Bay Area using a 30-year loan of $625,500 and have only a 3.5 percent down payment. Your MIP rate is .85 percent. The calculation is as follows:
$625,500 * .85% = $5,316.75
Your annual MIP amount is $5,316.75, which the lender divides into 12 monthly payments for the year. You pay the following MIP amount each month as a result:
$5,316.75/12 = $443.06
Because the MIP on an FHA loan can add hundreds of dollars to your monthly mortgage payment, and it generally lasts either several years or the entire life of the loan, many FHA borrowers refinance out of their FHA loan as soon as possible in favor of a conventional loan with no mortgage insurance or lower mortgage insurance. The PMI cost on a conventional loan is often lower than FHA MIP.
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