Crunch the Numbers and Drop Your PMI Payment

It's the kind of insurance that homeowners hate to pay. Private mortgage insurance applies to you if you're buying a home with less than 20 percent down. It adds about $43 per month for every $100,000 borrowed, or $516 per year. Although PMI doesn't insure you for anything--it simply protects the lender in case you default--it does encourage lenders to write loans for less than 20 percent down.

Unfortunately, many mortgage lenders were taking a laissez faire approach to canceling PMI at the appropriate time. In other words, when homeowners paid down their principal to the 80 percent level, lenders weren't exactly jumping on the bandwagon to tell customers to stop sending the payments. Fortunately, Congress got involved and passed the Homeowner Protection Act, which among other things requires lenders to cancel PMI. In addition, Fannie Mae and Freddie Mac adopted new guidelines that make it easier to cancel.

So, how do you find out if you're ready to cancel? And then how do you do it? Here's a step-by-step approach.

1 - Figure out how much static equity you've accumulated. In other words, how much of the original sale price have you paid off (not factoring in appreciation since you bought the home)? You'll need to know your home's purchase price, the amount you put down, the loan amount and the interest rate. Your annual escrow statement should provide the total principal you've paid over the years. Add that figure to the down payment. Here's the formula: Sale price minus mortgage balance = equity. Equity divided by sale price = percentage of equity. If the resulting amount equals 20 or more of the original sales price, then congratulations, go to step 4.

2 - Factor in appreciation, i.e., the increase in your home's value from changes in the real estate market or home improvements you've made. Single family home prices have gone up an average of about 5 percent per year, so chances are your home has increased in value since you bought it. If so, that's going to raise your equity and put you closer to the 80 percent pay-off mark for canceling PMI. Talk to a real estate agent, check the newspapers, and chat with the neighbors to find out what homes have been selling for in your neighborhood. Perhaps one of your neighbors recently had an appraisal to qualify for refinancing their mortgage. Another barometer is your local property tax assessment. Has it been going up? But remember that the assessed value, as a dollar figure, probably doesn't reflect your home's actual market value accurately. Here the formula is similar to step 1: Estimated value minus mortgage balance = equity. Equity divided by estimated value = percentage of equity. If the resulting amount equals 20 or more, you made it! Go to step 4.

3 - Pay down your principal. Still not at 20 percent? If you're reasonably close, consider paying a little extra on your monthly payments to put you over the top. Tell your lender you want the extra payment applied to the loan principal.

4 - Contact your lender's customer service department. Ask them to provide, in writing, the amount the property will have to be valued at to qualify to have the PMI dropped. Then write a letter requesting cancellation of your PMI. Include the amount you put down, the loan amount and the interest rate.

BEFORE you write, remember that lenders can escape the cancellation if you've been late making your payments, depending on how late and how often. In addition, FHA and VA loans do not qualify--PMI is required for the life of the loan.