Homeowners Insurance is not only an essential support for you as a homeowner, it is also an unavoidable part of a mortgaging process. You are required to have homeowners insurance on the property you are mortgaging, no mortgage will close without it. The lenders’ concern is obvious – your property is the collateral of their expenses, they are not ready to give it all up to rain or fire.

Talking about rain, water, and particularly flooding.  Surprisingly enough, it was not until Hurricane Katrina struck, that the whole nation woke up to realize that regular insurance policies did not cover damage from floodwaters (nor hurricanes, nor earthquakes). Too many were unaware that the circumstances required a special federal flood (hurricane, earthquake) insurance policy in addition to their regular one. Moreover, certain carriers did (and some still do) take advantage of this unawareness to avoid payment by claiming the damage was due to flooding even when it was not. Nowadays, flood-related insurance can be required in certain areas, along with a regular policy, to close a mortgage. Generally, your broker should be able to provide you with this information, but you can also do some research yourself. The official on-line resource is the page of the U.S. Department of Homeland Security. You can find out if you are in a risk zone for flooding and the degree of the risk, as it determines the necessity of the insurance. Because there are policies that cover water damage from hurricanes but not from floods, make sure you understand the subtle differences that can disallow one type of damage while allowing for something similar. Check out other risks of your area – it will help you decide what kind of insurance you will want for your property because the main purpose of any insurance is to compensate for losses, not just meet a paper requirement at closing.

The estimate of the insurance charge at closing appears as #11 on the Good Faith Estimate and a little further again on Page 3 as one of the Charges that can change at settlement. The lender may recommend some carrier to you, but it is only a recommendation. You are expected to shop for Homeowners Insurance yourself, which immediately gives you a big variety of choices and options. The most important characteristics of insurance to look at are the deductible and the coverage. The deductible is an unclaimed amount that the borrower pays himself to repair whatever damage resulted from an insured event. It is a set amount and if the repairs cost more than the deductible, you can claim the difference. The higher the deductible – the lower the premiums. The carrier expects that you will be able to pay for most repairs yourself, so they do not need so save really much for you. Do not disappoint them, for as soon as you start claiming even small amounts, even if they do exceed the deductible, you should expect a raise in premiums. Having a high deductible may seem a little bit too costly at a first glance, but experiments have proved, that if one has a high deductible and low premiums policy, he may have to pay for removing a tree fallen on the roof of his house himself, but the amount he had saved on the difference between his low premiums and the imposed otherwise high premiums, compensates for a very big part of the expenditure. In fact, in most cases it turns out cheaper than paying higher premiums all the way and have the carrier compensate for the costs. Be careful not to overestimate your financial potential, though – if something happens, you really have to be able to pay. Your lender may also have a requirement about the size of the deductible, so clear this up before you shop for insurance.

The coverage is always a pain. You must read thoroughly every item that is covered by your policy and make sure it covers everything you need. Some companies try to sneak certain issues, such as mold or dog bites, out. But it is not only the list that is important, but also the degree of coverage. “Guaranteed replacement cost coverage”, that pays the total bill to rebuild your property regardless of the price, is very hard to come by, and where it is available it is very expensive. The other levels of coverage are “actual cash value” (lowest coverage),”replacement cost” and “extended replacement cost”. The key is finding out what coverage you will have if your house is destroyed. A good policy should also take inflation into consideration.  Do not forget to pay special attention to flood/earthquake/hurricane insurance. You have to purchase those from the federal government; private companies do not provide this sort of service.

You may also consider a Personal Umbrella Liability Policy. This would extend the coverage even further at a price that many can afford. It is called an umbrella because it is carried over all other liability insurance and is used for a catastrophic loss when primary liability insurance is exhausted or for claims currently not covered. It is exceptionally useful if you (of course, God forbid, but still…) get involved in a car accident or get sued. Say, you fall asleep driving and cause an auto accident with a couple of cars, a driver and passenger in each car and everyone gets hurt and cars are totaled… It is not very likely that your regular liability limits will be enough to pay for everything and everyone. What if they sue you? The court can take everything except one car, basic household furnishings, the value of your house over $150,000 (which means if your house is valued higher you might have to sell it), and up to 30% of your wages for the rest of your life… or the umbrella insurance can pay your way out of this financial mess.  It also may cover some more exotic items, such as an accident while driving a golf cart at a golf course. Usually this “umbrella” is available to customers who insure both their auto and home with the same insurance company.  Beware, though, because some companies nowadays sell a product called “excess liability” policy, which is not a real umbrella and has a narrower coverage. Be sure to find out exactly what you’re getting.

For people who are not into “extras” very much, there is some advice on how to reduce the regular insurance premiums:

-          Even if you do not want Umbrella Insurance, you may still consider buying your auto insurance and homeowners insurance from the same carrier. These companies want as much of your business as they can possibly get, so many offer discounts to their customers who have more than one policy with their company. For you it may also mean less hassle paying the two premiums, as they will be billed to you together.

-          You may receive some discounts for being loyal to the company; usually, if you stick with them for 5 or more years.

-          Appropriate precautions to safeguard your home will decrease your premium, as well as actually make your house safer: deadbolt locks, smoke detectors, home security systems, burglar-proof bars on your windows, if you can tolerate the look of them, will reduce your premium a lot.

-          Here is one for free – do no smoke! Many homeowners are not aware that they can reduce their insurance premium if they stop smoking. Smoking cigarettes is one of the leading causes of home fires. Insurance companies will often offer a discount if no one within the home will be smoking as this offers less risk of a fire happening in your home.

-          Inspect all walkways regularly to make sure they are properly lit and free of obstacles. Preventing other people from being injured while on your property, you save yourself from a premium increase triggered by claiming.

The insurance requirements for buying a home may vary from lender to lender, but most of them require that the premium be paid for the first year at closing. If the borrower is starting an escrow account, an additional amount equal to several months’ premiums must be paid to fund the account.

There has been a lot of change in probably the most liberal until recently mortgage offer – the FHA-insured mortgage. Are you confused by the middle word in the title? Well, it is there rather to clarify any possible confusion or misunderstanding that FHA mortgages (that’s how they are called a lot more often) usually carry around themselves. First of all, FHA mortgages are not mortgages where the FHA performs as a lender, they are mortgages where the FHA performs as an insurer who actually protects the lender; and second – the borrower is the one to pay the insurance premiums! I don’t know if this explanation really clears the confusion or makes it even worse, for now regular mortgage insurance sounds pretty much the same, if you come to think of it…

In my post today I will try to explain the difference and draw your attention to the details that may help you decide whether an FHA mortgage loan is the one for you.

The Federal Housing Administration (FHA) has insured over 35 million home mortgages and 47,205 multifamily project mortgages since its foundation in 1934. Early decades of popularity during and soon after the Great Depression declined as new favorites – the recent interest-only loans and option ARMs among them – came on the scene, but reclaimed its position later as these “favorites” failed to deliver. Currently, FHA has 4.8 million insured single-family mortgages and 13,000 insured multifamily projects in its portfolio. Experts expect a sharp increase in these numbers in the coming years. What makes FHA mortgages attractive?

An average FHA borrower is a homebuyer with credit usually insufficient to shop in the prime mortgage market. In most cases such borrowers are better off with an FHA-insured mortgage than with an equivalent sub-prime conventional mortgage. The sole fact, that a mortgage will be FHA-insured, already makes the lender more favorable. Instead of being forced to buy a sub-prime mortgage, which will very likely be an adjustable rate mortgage with wide margins, the borrower gets access to a choice of FHA-insured mortgage products to select the one, that serves his needs best.

However, the common knowledge advantages like low costs, low down payments, low credit score requirements were modified substantially quite recently by the FHA Modernization Act of 2008 (within the Housing and Economic Recovery Act of 2008) again, quite soon after the major changes in the FHA loan program that had taken place on July 14, 2008.
If you don’t mind reading some legal stuff, the complete text of the Act can be found here (FHA MODERNIZATION ACT OF 2008 page 2830) I will only give a brief account of the most decisive changes made. The new rules are in effect for all FHA mortgages that have FHA case number assignments starting October 1, 2008 through September 30th, 2009. FHA’s fiscal year begins 10/1 and ends 9/30. The year will show if it was all worthwhile and if the new rules should stay after September 2009.

A couple of advantages seem to be untouched, though:

• Higher ratios. The FHA allows a 29 percent ratio of mortgage payment to income ((the mortgage payment divided by gross monthly income)*100%) and a 41 percent ratio of all monthly debt to income ((all the monthly debt such as auto loans, credit card payments, taxes divided by gross monthly income)*100%). Conventional loans usually allow 28 percent and 36 percent, respectively.
• No prepayment penalties. You can make extra payments towards the principal or refinance any time without a penalty.

The downside of the FHA programs is the limitation in the amount you can borrow as an FHA-insured mortgage. The limits vary from location to location. On the official government page you can look up the FHA mortgage limits for your destination area.

A property bought with an FHA-insured mortgage must be owner-occupied. An FHA loan requires the home, or one unit in a multi-family complex, be occupied by an owner. So, this program is not for investors looking to buy property to rent out.
The FHA insures only certain types of mortgages bought from FHA-approved lenders. There are thousands of FHA-approved lenders of all kinds throughout the country: banks, mortgage companies, mortgage brokers, state finance agencies, credit unions. This is the official FHA Lender Finder page. For more practical local information, your real estate broker can provide you with a list of reputable lenders in the area who offer competitive costs and services. FHA approved lenders usually work in the conventional market, too, so you have to point out explicitly, that you are interested in an FHA mortgage. The eligibility requirements, even though based on the FHA guidelines, may vary from lender to lender, so you have to make sure that you meet the requirements in each particular case. The FHA only insures your mortgage; it does not negotiate the terms, nor does it guarantee the flawlessness of the property being bought. They do conduct an inspection of the property, but their purpose is rather to protect HUD and the lender by making sure that the house is in an acceptable condition. The statement is to be found here. They are NOT obliged to disclose the results of this inspection to the borrower or assume any responsibility, if the borrower blindly trusted their silence on the matter. In a similar manner, the terms of your mortgage are the result of your negotiations and agreement with the lender. This agreement and the lender’s verification of your application information still need to be approved by the FHA for the lender to be able to finalize the deal. Most lenders need from 3-6 weeks for the entire loan approval process.
If everything goes smoothly, you will most likely have a fixed quite reasonable rate 30 year mortgage insured by the FHA, which basically gives you a fixed amount as a monthly payment, insurance premiums payments, possibly escrow payments and all kinds of FHA homeowners support benefits. These last ones are actually a very important part of the deal. Unlike many other insurance companies, the FHA is a very sympathetic and helpful insurer. They provide various advisory programs against foreclosure.
The FHA also insures adjustable rate mortgages and reverse mortgages (HECM). The advantage of an FHA reverse mortgage is the obligatory consumer education and counseling by an approved HECM counselor to make sure the customer understands the program and it really meets his needs.
The purchase/rehabilitation loan offered by the FHA is called the SF Rehabilitation Loan program (203k). It allows you to buy an under-maintained single-family property with one mortgage loan which includes the mortgage and the cost of repairs combined. The advantage of this loan is that you can buy a home that needs a lot of work, but you still have only one mortgage payment, and you can complete the repairs after buying the home.
The complete list of FHA programs can be found here.

The FHA annual insurance premium (not the “spread” UFMIP!) does not last throughout the whole life of a loan; the insurance itself, i.e. the guarantee of the government, does. The rule holds for loans closed on and after January 1st, 2001. FHA’s annual mortgage insurance premium gets cancelled automatically once the unpaid principal balance, excluding the upfront premium, reaches 78% of the lower of the initial sales price or appraised value. The 78% is based on the initial amortization schedule, and does not take any extra payments into account. This cancellation rule applies only to FHA’s mainstream insurance program. It does not cover mortgages on condominiums or Section 203(k) rehabilitation loans, among others.
Borrowers who have made additional payments to principal must take the initiative through their lender to have the insurance terminated using the 78% rule. The insurance premiums must have been paid for at least 5 years by then.
A 15 year FHA mortgage annual insurance premium will be cancelled at 78% loan-to-value ratio (LTV) regardless of how long the premiums have been paid. If the original LTV is 89.99% or less, there is no annual insurance on a 15 year FHA mortgage.
Important! To people who paid off an FHA loan originated between September 1, 1983 and December 8, 2004, early (e.g. through the sale of the property or refinancing an FHA loan into a non FHA loan):  you may be eligible for an FHA MIP refund, if you paid an upfront mortgage insurance premium at closing and did not default on your mortgage payments. You can check here to see if you are. DO NOT trust any third parties who charge you fees to have it done for you. All the information is available on the official FHA web-page for free!

I can think of three reasons for that. One of them or any combination of them could result in such an illogical at first glance situation:
• You made an extra payment towards the principal some time ago and now it’s taking effect. The balance has become so low, that even a higher rate cannot push the actual sum of the monthly payment to its previous margin.
• The PMI got cancelled by the lender. Under the provision of the 1999 Federal law, lenders are required to cancel private mortgage insurance on most home mortgage loans made after July 29, 1999 automatically when amortization has reduced the loan balance to 78% of the value of the property at the time the loan was made. An earlier cancellation at 80% of the property’s value is likely to happen only if initiated by the borrower himself.
• If the rate has increased, but the amount of your monthly payment remained unchanged or went up insignificantly and then froze at that level, you may be in trouble, because these are the symptoms of a monthly payment cap in action. Check your mortgage contract: Is your mortgage an adjustable rate mortgage? Does it carry a payment cap? If this is the case, you should immediately look for ways to avoid negative amortization, and fast, before it increases the outstanding balance of your mortgage and wastes a lot of the effort you have put into paying the debt off.

Actually, there is no limit to the size of a down payment. It can even be 0% with certain kinds of mortgages, but you have to be able to qualify for it.  Another tricky part here is the Mortgage Insurance. If your down payment is lower than 20% of the purchase price (or the appraised value, whichever the lowest on the day of purchase) of the property, you will be obliged to pay private mortgage insurance (PMI) premiums until the outstanding balance of your mortgage hits the 80% of the purchase price margin. PMI is usually not cheap, so a lot of people prefer alternatives, such as a conventional second mortgage, a piggyback mortgage (80/20) or LPMI. The size of a second mortgage or a piggyback mortgage is determined by how much cash you are ready to put down, the rest can be borrowed.

If, for example, you are planning to put only 5% of the purchase price down, you can either go for a large 95% first mortgage with PMI, or borrow 80% with a first mortgage without PMI and another 15% with either a conventional second mortgage or a piggyback mortgage. The interest rate on the second mortgage will be higher than that on the first one, but still it will very likely result in lower monthly payments than PMI premiums.

There is also a slight issue of tax deductibility involved. While mortgage interest payments are unquestionably tax deductible, PMI premiums are deductible only for mortgage insurance contracts issued from Jan. 1, 2007, through Dec. 31, 2009.