Published on November 12, 2020
How PMI and Credit Scores Are Linked
Written by The Servion Group
Most home buyers understand that credit scores play a big role in how they finance their home purchase. The scores can affect things like interest rates and eligibility for certain types of loans. But far less understood is how credit scores can affect other parts of the transaction, specifically the cost of private mortgage insurance.
Private mortgage insurance, known as PMI, protects the lender’s investment when the borrower pays less than 20 percent down. When the homebuyer reaches 20 percent equity, PMI is not required and there are several ways to get rid of it. Until then, the buyer must pay a monthly insurance premium, in addition to the mortgage. (For simplicity, we're only talking about PMI on conventional loans in this article; there are other types of mortgage insurance for other loans types).
For more details on PMI -- what it is, why it's needed, and how to get rid of it -- check out our earlier article.
Credit Scores Can Affect the Cost of PMI
Mortgage insurance companies, like mortgage lenders, look at credit scores when determining PMI eligibility and cost.
Steve Keleher, senior vice president of portfolio management and pricing at Radian, a leading provider of mortgage insurance and other risk services, spoke with Bankrate earlier this year about credit scores and PMI.
“I would say it’s one of the bigger drivers of how mortgage insurers tend to price,” Keleher said. “We protect the lender and investor; anything that increases the likelihood of delinquency and foreclosure increases the cost.”
An example scenario
The PMI premium typically goes up as the credit score goes down, according to Anthony Guarino, senior vice president of pricing at credit policy at Genworth Mortgage Insurance. As an example:
Imagine three borrowers with three different credit scores:
- Borrower 1 has a "very good" FICO credit score of 740 or higher.
- Borrower 2 has a "good" FICO credit score of 670-739.
- Borrower 3 has a "fair" FICO credit score of 620-660.
Each borrower buys a house for $300,000 and puts 10 percent down, leaving them with a balance of $270,000 with a 30-year mortgage. Because they are not at the 20 percent equity threshold, each borrower will need to pay PMI.
According to Guarino:
- Borrower 1's PMI payment might be 0.20 to 0.30 percent of the loan balance, or $45 to $68 a month.
- Borrower 2's PMI payment might be 0.35 to 0.40 percent of the loan balance, or about $79 to $90 a month.
- Borrower 3's PMI payment might be 0.75 to 1.5 percent of the loan balance, or about $169 to $338 a month.
As you can see, someone with a fair credit score might end up paying three or four times as much in PMI as someone with a very good credit score.
Mortgage insurance for FHA loans works differently, but credit scores still factor in. Here's an in-depth article on this topic from Bankrate.
PMI Opens the Doors to Home Ownership for Many
Private mortgage insurance is an added cost of homeownership that buyers dread, but the fact is, many people would not be able to buy a home without it. PMI opens doors for borrowers who can’t get over one of the biggest hurdles to homeownership: the 20 percent down payment.
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