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MORTGAGE INSURANCE PART II

Last week I talked about mortgage insurance, which is often or usually required when you are putting less than 20% down. The two main options would be an FHA loan, or a loan with private mortgage insurance (PMI). Loans with PMI made after July 29, 1999 have a neat feature where the PMI comes off automatically when your loan balance drops to 78% of the original loan balance.

If you have an FHA loan older than June 3, 2013, the process is very similar. If your balance drops to 78% of the value of the home at the time the loan was made, the monthly insurance will automatically stop. So if you bought your home using an FHA loan, the value they will use is the purchase price most likely.

However, if you got an FHA loan on or after June 3, 2013, it is a VERY different story. The monthly mortgage insurance never comes off. As in NEVER. It doesn’t matter if you bought a home for $300,000 and it’s now worth $600,000 and you’ve paid extra towards your principal so your balance is now $100,000. NEVER.

So the only way to effectively cancel monthly FHA mortgage insurance is to pay the loan off in full and/or refinance it. Right now, rates are low, so as long as you have the equity to refinance into a non-FHA loan, that could be a wise choice. But if rates go up, you could be stuck in a situation where you’d LIKE to refinance out of your FHA loan to lose the monthly mortgage insurance premiums BUT with the higher interest rate, it doesn’t make sense. If you bought a home over the last few years with an FHA loan, call your favorite lender and see if it makes sense to refinance out of it.

PMI REFRESHER

In the distant past, lenders would not lend more than 80% of a home’s value, meaning the buyer had to come up with 20% as a down payment plus their other closing costs. This was seen as a huge challenge to many potential home buyers, so the government created the Federal Housing Authority (FHA). With an FHA loan, the buyer could buy a home with very little down payment, and FHA would insure the lender against their losses if the buyer didn’t pay. The buyer pays for this insurance as an up-front and monthly insurance premium that’s added to their monthly payment.

These insurance fees were quite large and increased over time, so private companies got into the act, which led to the creation of private mortgage insurance (PMI). So instead of the government insuring the loan, a private company would guarantee payments to the lender, and charge the buyer either up-front or monthly insurance premiums.

There are pluses and minuses to FHA vs. PMI, which I don’t have room to go into fully here. One of the biggest differences is in regards to when you can stop paying the monthly insurance.

For loans made after July 29, 1999, PMI drops off automatically once your balance drops to 78 percent of the original purchase price. If your loan is older than that, you can call your lender and ask if they have a process where it can be dropped. You may have to pay for an appraisal to prove you have at least 20% equity. If they won’t drop it, your only option may be to refinance the loan with a new loan that doesn’t have PMI.

FHA loans have their own rules for if and when you can stop paying the monthly mortgage insurance premium. I’ll discuss that in next week’s article.

PAYING CASH

Some buyers pay cash for their homes. It doesn’t happen in our area as much as the Silicon Valley, but it still happens enough to talk about it. Some buyers pay cash and never intend to get a loan on the property. But other buyers pay cash just for negotiating purposes, and then they’ll take a loan out after close of escrow. They think they can get a better deal by paying cash, and for the most part they are right.

 

Most sellers will prefer a cash offer over a financed offer and many will give a cash buyer a bit of a discount. There is less uncertainty regarding the buyer’s loan, the appraisal (although a cash buyer CAN still retain an appraisal contingency, but few of them actually pay for an appraisal) and usually fewer delays at closing.

 

So if you have the cash, this strategy is sound as far as increasing your negotiating power at the time of hammering out a deal with the seller. However, there is a drawback to this approach that you may not have thought of. By taking a loan out AFTER close of escrow, the IRS will likely consider that loan a “home equity” loan, and therefore you could be limited to only writing off the interest on the first $100,000 of the balance. In addition, this loan will likely be considered a “recourse” loan, which means your lender may be able to pursue you personally if you aren’t able to make your payments. If you get a loan to purchase the property, it’s considered a “purchase-money” loan which may provide you some superior legal protection in the event you default. So be sure to consult with your legal and tax experts before employing this strategy!

I AM NOT A TAX OR LEGAL EXPERT AND THIS ARTICLE IS GENERAL IN NATURE.

LEASED SOLAR

If there is a leased solar system on a home that you are considering buying, there are several things you should consider.

 

Ask for a copy of the lease paperwork and the current homeowner’s utility bills. You should compare the lease payment versus the savings expected. Let’s say the departing homeowner had a large number of people living in the home, so they opted for a large system, which means a large lease payment. This made sense for them because of their large electric bill. But if a single person is considering buying that home, that lease payment may be more than their electric bill would ever be. If so, and if the solar company won’t agree to down-size their system, this could be a deal-killer for that buyer.

 

Once you’ve reviewed the lease documents and determine that this system makes sense, then you need to see if the solar company will approve transferring the lease to you, and review the transfer paperwork you’ll be asked to sign. This killed many deals a few years ago but now it seems like the solar companies have streamlined this process to where most transfers are approved.

 

There is one more thing that you may not be aware of. Your lender may count the lease payment in your debt ratio. So a $200 a month solar lease payment has the same effect as a $200 car payment. This may not seem fair or logical in this case because paying $200 a month may be saving you $300 a month off your utility bill, which is a net positive, but that’s the way some lenders do it. So if you are at the absolute maximum purchase price, check with your lender if you are considering a home with a leased solar system because it may cause challenges with you getting approved for your loan.

 

 

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