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So, you're about to buy a home? Awesome! You're probably running into a bunch of new terms, and “PMI” is likely one of them. What is it, exactly, and why do you need to know about it? Glad you asked! It's a question a lot of homebuyers have, especially the first time around. Getting a handle on PMI—what it does and how it works—is super important.

Here's the deal: when you get a car loan, the bank wants to make sure they don't lose out if you stop making payments. PMI (Private Mortgage Insurance) does something like that, but it mostly protects them, the lender, not you. Why? Because when you don't put much of a down payment on a house, the lender takes on more risk. Makes sense, right? Less down payment = less of your own money at stake.

This blog is here to clear up the mystery around Mortgage Insurance in Canada. By the way, check out our in-depth guide to understanding the mortgage approval process for even more info!

What is PMI? A Basic Definition

Okay, PMI = Private Mortgage Insurance. Plainly put, it's insurance that protects your lender if you stop making your mortgage payments. You'll generally run into it when you put down less than 20% on your home. Think of it as the lender's safety net.

Imagine the bank is lending you a huge amount of money. If you can't pay and they have to foreclose, PMI helps them cover their losses. Without it, many lenders just wouldn't be able to offer mortgages to people who don't have a big pile of cash for a down payment. It opens up homeownership to a lot more people.

How Does PMI Work?

PMI isn't one-size-fits-all. The amount you pay depends on a few things, including your loan-to-value (LTV) ratio, credit score, and the size of the loan. Higher LTV + lower score = higher PMI. Simple as that.

Usually, your PMI cost gets tacked onto your monthly mortgage payment. You keep paying it until you've built up enough equity in your home. It's a must to include this when you're figuring out what you can actually afford each month.

Let's look at a few examples:

• Example 1: You buy a $500,000 house and put down 5% (LTV = 95%). Your PMI could be around 1% of the loan amount per year. That works out to roughly $416.67 a month.
• Example 2: Same $500,000 house, but you put down 15% (LTV = 85%) and you have a great credit score. Now your PMI could drop to something like 0.5% of the loan amount per year, or approximately $177.08 monthly.

Big difference, right? PMI can really change how much money you have each month and how much your mortgage costs you in the long run. Play around with our affordability calculator to see what PMI might look like for you.

PMI in Canada: Key Differences

In Canada, you probably won't hear the term “PMI” very often. We typically call it “mortgage default insurance.” If you're getting a high-ratio mortgage, meaning you're putting down less than 20%, you'll almost definitely need it. You might also hear it called CMHC insurance (Canada Mortgage and Housing Corporation) insurance, or Genworth or Sagen.

This is important: in Canada, if you're approved for a high-ratio mortgage, you're likely to get mortgage default insurance, which will protect the lender in case you stop paying.

Don't mix this up with optional insurance, like mortgage life insurance. That's a different animal entirely – it protects your family if you die before the mortgage is paid off. One protects the bank, the other protects you.

Who Pays for PMI and Why?

You, the borrower, are stuck with the PMI bill, even though it mainly protects the lender. Seems a bit unfair, but it's just a cost of doing business when you haven't saved up a big down payment. The lender takes this cost as a component of the mortgage approval process to ensure you are financially capable of repaying the mortgage.

When you put less money down, the lender is taking on more risk, and PMI helps cover that risk. Reducing the risk for lenders makes it easier for more people to buy homes.

Also, your credit score matters here. So be sure to understand the impact of credit score on mortgage rates. A good score can mean lower PMI payments. A bad score? You might pay more or even get turned down.

Benefits of PMI for Homebuyers

Yes, it's an extra monthly expense, but PMI can have some upsides:

• Homeownership Sooner: Don't have a 20% down payment saved? PMI can let you buy a house now, instead of waiting (and saving) for years.
• More Loan Options: Because PMI reduces the risk for lenders, they're often more willing to offer loans to people with smaller down payments.
• Maybe Better Rates: In some cases, the competition among lenders because of PMI might mean you can actually get a better interest rate, even with a higher LTV. It's worth comparing your options!

Drawbacks of PMI

Okay, let's be real about the downsides:

• Extra Monthly Cost: It adds to your monthly mortgage payment, plain and simple.
• No Equity Building: Unlike the money you put towards the house itself, PMI doesn't increase your equity at all.
• Adds Up Over Time: All those PMI payments can really add up to thousands of dollars over the life of the loan.
• Potential Credit Score Impact: So, ensure you improve your credit score before applying. The better shape you are in, the better your approval odds and overall costs will be.

Taking steps to take before applying for a mortgage will allow for an evaluation to secure potentially better available rates.

How to Avoid PMI: Strategies and Tips

Want to ditch PMI? Here are a few things to try:

• Save 20% for a Down Payment: This is the most obvious way to avoid PMI. It might take longer, but you'll skip the PMI payments and instantly have more equity.
• Consider a “Piggyback” Loan: This is where you get a second mortgage (like a HELOC) to cover part of your down payment, bringing your LTV below 80%. Learn more about home equity solutions (HELOC).
• Negotiate Lender-Paid Mortgage Insurance (LPMI): Some lenders will pay the PMI for you, but charge you a higher interest rate. Crunch the numbers carefully to see if that's a good deal for you in the long run.

When and How PMI Can Be Removed

In the US, your PMI will automatically be cancelled once your loan balance hits 78% of the original home value. You can also ask to have it removed manually once you hit 80% LTV, but you might need to get an appraisal to prove that your home's value has increased.

However, in Canada, mortgage default insurance usually sticks around for the entire mortgage term. The only way to get rid of it is to refinance your mortgage after you've built up enough equity or made significant improvements to your property. Determine whether a mortgage refinancing explained is an approach that can reduce expenses.

PMI vs. Mortgage Protection Insurance: What's the Difference?

Don't confuse PMI with mortgage protection insurance (also called mortgage life insurance). They sound similar, but they're not the same:

• PMI: Protects the lender if you default. Usually required for high-LTV loans.
• Mortgage Protection Insurance: Protects your family if you die before paying off the mortgage. It pays off the outstanding balance.

PMI is for the bank, while mortgage protection insurance is for your peace of mind.

So, is PMI a good thing or a bad thing? It can seem like just another expense. It might be a helpful tool!

You must speak with a mortgage advisor who can help you understand how PMI can fit into the picture. Options, potential savings and more possible ideas will be explained.