When a buyer puts 20 percent or less cash down, most lenders require mortgage insurance, know as PMI, which is paid for by the buyer. The cost of PMI is about 1/2 percent of the loan amount annually. So, on a $250,000 mortgage, PMI will run about $1,250 per year.
PMI protects the lender in case the buyer stops making mortgage payments. PMI increases the cost of home ownership.
Low-cash buyers can avoid PMI by using piggyback financing. Here's how it works. Instead of taking out one mortgage, you combine two mortgages to come up with 80% financing and thereby avoid PMI. You could combine a 80 percent mortgage with a 20 percent second mortgage. Or, you might combine a 80 percent first with a 15 percent second. You could save as much as $100 per month using piggyback financing, depending on the size of the loans involved.
You might wonder why anyone would choose to do financing that requires PMI. For some buyers, there is no other choice. Piggyback financing requires good credit. Second mortgage lenders can be stricter than first mortgage lenders in their qualifying criteria. Typically, borrowers need a credit score of 660 or more to qualify.
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