A Homebuyer’s Guide to How Mortgage Insurance Works (and When You Need It)

Buying a home with less than 20% down often means taking on mortgage insurance. It’s an added cost, and most buyers aren’t excited about it, but mortgage insurance plays a bigger role than many realize. It’s what allows lenders to approve low-down-payment loans, which in turn helps more people become homeowners sooner. Understanding how these coverages work, what they cost and when they fall off can help you decide if a smaller down payment makes sense for you.

What Is Mortgage Insurance?

It may seem counter-intuitive, but mortgage insurance is intended to protect the lender, not the homeowner, if payments stop. That may sound like a drawback, but it also works in your favor.

When you buy a home and cover less than 20% of the price with your own money upfront, known as a down payment, private mortgage insurance helps lenders approve a loan that might otherwise feel too risky. In practical terms, it means you can buy a home with a smaller down payment and start building equity instead of waiting years to save more.

Why Mortgage Insurance Exists

Lenders require mortgage insurance for a simple reason: It lowers their risk. With a smaller down payment, they’re financing more of the home’s value. This gives them a financial cushion if you, the borrower, defaults.

At the same time, mortgage insurance makes homeownership more attainable. Many buyers can move forward with 3–5% down instead of holding off until they hit the 20% mark.

Types of Mortgage Insurance

Private mortgage insurance, or PMI, is the one most borrowers hear about since it applies to many conventional loans. Still, each major loan program has its own version of mortgage insurance:

Private Mortgage Insurance, or PMI

• Required on most conventional loans with less than 20% down
• Added to your monthly mortgage payment
• Typically, 0.2% to 2% of the loan amount per year
• Can be removed once you hit 20% equity (or drops off automatically at 22%)

FHA Mortgage Insurance Premium, or MIP

All new FHA loans require MIP, though how long you pay it depends on your down payment and loan term.

• Includes an upfront premium (usually 1.75%) plus an annual premium
• Lasts 11 years with a down payment of 10% or more
• Can last for the full loan term with less than 10% down
• Often removed by refinancing into a conventional loan once you have enough equity

USDA Guarantee Fees

USDA loans don’t use mortgage insurance but charge:

• An upfront guaranteed fee
• An annual fee that is calculated once a year but broken into monthly payments, similar to PMI

VA Funding Fee

VA loans avoid monthly mortgage insurance but require a one-time funding fee, which can be financed into the loan.

How Much Does Mortgage Insurance Cost?

Mortgage insurance costs can vary based on:

• Loan type
• Down payment amount
• Credit score
• Loan term
• Loan size

As a general rule, smaller down payments and lower credit scores lead to higher mortgage insurance premiums. Getting a clear quote early in the process can help you compare loan options more accurately.

How Long Do You Have to Pay Mortgage Insurance?

PMI for Conventional Loans

You can usually request removal once your loan-to-value reaches around 80%, and in many cases PMI ends automatically near 78% LTV if you’re current on payments. Your lender may also require an appraisal to confirm your home’s value.

Ways to speed things up:

• Make extra principal payments
• Let natural appreciation work in your favor
• Order a new appraisal if home values have improved

MIP for FHA Loans

MIP lasts:

• 11 years with 10% down or more
• The entire loan term with less than 10% down

Many FHA borrowers drop MIP by refinancing into a conventional loan once they’ve built enough equity.

Benefits of Mortgage Insurance

Mortgage insurance adds cost, but it also brings real advantages:

• Allows many borrowers to buy a home sooner
• Reduces the need for a large upfront down payment
• Helps you keep savings available for emergencies
• Makes early homeownership more realistic for first-time buyers

How to Reduce or Avoid Mortgage Insurance

1. ) Put at Least 20% Down for Conventional Loans

The most direct way to avoid PMI, though not always practical.

2.) Use a Piggyback Loan (80/10/10)

• 80% first mortgage
• 10% second mortgage

• 10% down

  This removes PMI but adds a second loan you’ll need to manage thoughtfully.

3.) Improve Your Credit Score

Good credit usually leads to lower mortgage insurance premiums.

4.) Refinance When You Reach 20% Equity

A refinance can remove mortgage insurance entirely, which can be especially helpful for FHA borrowers paying MIP.

Is Mortgage Insurance Worth It?

For many buyers, yes, it is worth it. Mortgage insurance can help you buy a home sooner, keep cash reserves intact and make a competitive market more accessible. If saving 20% would delay homeownership for several years, paying mortgage insurance for a shorter period may be the better financial move.

In the past, mortgage insurance premiums were sometimes tax-deductible, but that deduction is currently off the table for recent tax years. Laws change, so it’s always a good idea to check with a tax professional about what applies in the year you’re filing.

Mortgage insurance can feel like one more line item in the budget, but it plays a big part in helping buyers get into a home sooner. When you understand how these programs work - and how to lower or eventually remove them - you can make a clearer, more confident decision. At OMB Bank, our mortgage team is here to walk you through the process and help you find the loan that fits your goals.
 

OMB and its affiliates do not provide legal, tax or accounting advice. You should consult your legal and/or tax advisors before making any financial decision.