3 Primary Conventional Loan Options…Less than 20% Down Payment
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There are really just 3 options as far as loan structuring goes when it comes to buying a home with a conventional mortgage when you are not putting down 20%. These options are applicable whether you are doing a 30yr, 20yr, 15yr, or 10yr fixed mortgage.
1. Lender Paid Mortgage Insurance – LPMI
Why should you choose this option? If you are looking for a loan structure that despite the future benefitmay lack compared to other options regarding knocking down the principal of the loan and money saved over time, but rather just looking for the option that gives you the lowest monthly payment available, this option is for you. Another good reason taking the LPMI option over the BPMI (Borrower Paid Mortgage Insurance) option would be that you know going in that you will be moving or refinancing this house in the first 4-7 years or so…the best option if you know you are moving in that time would be the combo as you will see below.
Why this option may not be the best for you? You see, the monthly payment you initially pay on this option will start off as the lower payment option, but the payment NEVER changes, and you keep the same interest rate and the same payment until the loan is paid off. If you chose the option where you pay mortgage insurance, the payment might be $20+ higher a month than the lender paid mortgage insurance, but after you either have 20% equity or 22% in some cases, the mortgage insurance falls off the payment and for the remainder of the loan you will have a total monthly payment that could be $50+ a month less than the LPMI option. That being said, if for example you reach the 20-22% equity mark after the first 10 years and you were in a 30yr mortgage, you
would have 240 months left where you would save $50+ on your payment. So, you
can see how the long term benefit with the MI option is better than the LPMI option over time.
2. Borrower Paid Mortgage Insurance – BPMI
Why should you choose this option? Let’s first keep in mind that there is only one variable that makes choosing the BPMI or the LPMI options over the below combo option, and that is simply the lower payment. So, you might choose this BPMI option because you like the lower payment compared to the combo option below, but you like the idea that long term, your savings strictly on monthly payment over time outweighs the LPMI option.
Why this option may not be the best for you? I’ve found out through the years that many people, when knowing their options, choose the LPMI or the combo option over the BPMI option. The reason being, since on the LPMI option, the payment is lower, they realize they could actually take the that option and just use the money each month they save over this option and apply it as extra payment towards principal. This makes it possible for them to pay the lower payment on months they need to save their cash flow, but pay extra on months they feel comfortable dishing out the extra money but also pay the loan off a little early.
3. Combo Loan – 1st and 2nd lien
Why should you choose this option? With this option, none of your monthly payment goes toward mortgage insurance, so all of your payment is toward knocking down principal or payment interest. The KEY factor though is in the 2nd lien in this option. Most of the time I have my clients choose the 15yr fixed 2nd lien coupled with the first lien. On a 15yr note, the majority of your monthly payment on that loan is going toward paying down the loan where on 30 year notes, it’s not until around year 18 that more of your monthly payment goes toward paying down the principal/loan rather than interest…30 year mortgages are front loaded with interest. That being said, when paying down your 2nd lien faster, you are accumulating equity at a rapid rate. If you were to sell your home in the short or long term, you would essentially get a lot more cash from the sale of your home compared to the other options. On top of that, if you did not sell your home and you kept the home for 30 years, since the 2nd lien is a 15 year fixed note, the payment on that would go away completely. That means that you only have your 1st loan payment for the
remaining 180 months of the time you have a mortgage. Since a 2nd lien payment could be well over $100 or even $200 a month, you can simply multiply that savings over 180 payments and see quickly how much you save over time. This is why the combo loan structure can be so advantageous over the other options.
Why this option may not be the best for you? Okay, so we know the payment can be a little higher than the other options…that’s the obvious. The only other reason is not a reason most people would even take into account when choosing mortgage options, and that reason would be that you actually received two mortgage statements each month, so you have to make two separate payments. Keep in mind, when doing this option you also have additional 2nd lien lender fees, but ranging from $800-$1,500 total additional fees to save tens of thousands of dollars over time, the 2nd lien lender fees are not any reason to avoid such an option.
For more details on how to avoid PMI.
To view my videos on mortgage options.