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Does a Home Equity Loan Affect Private Mortgage Insurance?

There is one instance in which a home equity loan can impact your PMI, but it won't apply to most borrowers.

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Home equity loans allow you to tap into your home’s equity without disturbing the rate on your primary mortgage. If you’re currently paying private mortgage insurance, a home equity loan could potentially impact your PMI in one specific instance. Generally speaking, however, the vast majority of homeowners seeking a home equity loan shouldn’t worry about it affecting how much they pay for PMI. 

Yet just like much in the mortgage market, things can get complicated. Here’s a breakdown of the relationship between home equity loans and private mortgage insurance, with some basic explanations to start.

What is a home equity loan?

A home equity loan, commonly known as a second mortgage, is a fixed-rate installment loan secured by your house. Home equity loans offer you a one-time lump sum of cash that you’ll pay back over the life of the loan. To qualify for a home equity loan, most lenders require you to have at least 15% to 20% equity in your property, though some allow you to have much less, as low as 5% equity to qualify in certain cases. 

A second mortgage doesn’t replace your existing mortgage. It’s an additional loan you take out and repay separately. You can also get a home equity loan if you own your home outright, meaning you have no mortgage.

What is private mortgage insurance?

PMI is a fee your lender charges depending on the size of your down payment. Generally, when you make a down payment that’s less than 20% of the home price, lenders will require you to pay PMI because the home loan is considered riskier.

Many homebuyers who put down smaller down payments have PMI. In 2020, 22.4% of conventional loans backed by Freddie Mac and Fannie Mae had PMI policies attached. 

The cost of PMI will depend on a few factors, including the size of your loan and your credit score. PMI can be paid monthly or upfront in a lump sum.

Do home equity loans always affect PMI?

The short answer is: No. 

For the majority of home equity loan borrowers, private mortgage insurance won’t even enter the equation during the application process. That’s because most lenders require you to have at least 15% to 20% equity in your property to qualify for a home equity loan. And once you have at least 20% equity built up in your home, you’re no longer required to pay for mortgage insurance. 

However, because some lenders let you take out a home equity loan with much less equity, there’s a chance you could still be paying PMI at the time you want to borrow. In that situation, taking out a home equity loan still won’t affect the cost of your PMI, but it could impact when you’re eligible to stop paying PMI. That’s when something called your loan-to-value ratio could come into play.

What is the loan-to-value ratio?

The loan-to-value ratio, or LTV, is the relationship between your home’s appraised value and your current mortgage loan amount. For example, if your home has an appraised value of $500,000 and you take out a loan of $450,000 (equal to making a 10% down payment), your LTV is 90%. Since your down payment is less than 20%, you’ll have to pay PMI to your lender until you reach an LTV of 80%. 

As you make mortgage payments and your home’s value appreciates, your LTV decreases. The loan-to-value ratio is a key consideration for lenders when determining whether you qualify for a home equity loan. Most (but not all) lenders aren’t willing to lend more than 80% of the home’s value.

How can a home equity loan affect PMI? 

While it’s commonly misconstrued that a home equity loan will increase your LTV ratio and the amount of time you’re required to pay PMI,* that’s not actually the case. 

Your LTV is based solely on your primary mortgage, meaning second mortgages like home equity loans aren’t factored into the calculation, according to Eileen Tu, vice president of product development and credit policy at Rocket Mortgage. 

While a home equity loan could potentially impact when your PMI is canceled, it’s not because of an increase to your LTV, but rather due to a clause in the Homeowners Protection Act

According to the Homeowners Protection Act, you can request that your PMI be canceled when you reach an LTV of 80%. But if you have a home equity loan, your lender is technically allowed to deny that request until your LTV ratio drops to 78% -- the point at which PMI is automatically canceled. The exact amount of time it takes for your LTV ratio to fall that extra 2% will depend on the size of your mortgage and your interest rate. 

However, even this rare circumstance has a loophole. According to Seth Appleton, president of the US Mortgage Insurers, the bank could decide to deny the termination of PMI within that limited window, but it could also approve it. In other words, your lender might still grant your request to cancel PMI even if you have a home equity loan. 

Note that if you aren’t paying PMI because your LTV ratio is already below 80%, you won’t have to worry about any potential conflict with a home equity loan.  

*See below for a correction to our reporting on this question.

Can a home equity loan increase your loan-to-value ratio? 

The LTV ratio is calculated based on your primary mortgage, whereas the combined loan-to-value ratio, or CLTV, factors in all loans secured by your house, including a home equity loan or a home equity line of credit. Private mortgage insurance only takes into account your LTV ratio on the original amortization schedule, not your CLTV ratio. 

Even though taking out a home equity loan will increase your CLTV ratio, it will have no impact on your LTV ratio or your private mortgage insurance, according to Tu.

How to avoid or remove PMI

PMI is a topic of debate in the world of personal finance. Private mortgage insurance borrowers are more likely to have lower credit scores and higher LTV ratios. While paying for PMI allows you to move into a home with a lower, more affordable down payment, it will increase your monthly mortgage payment. 

Though the most straightforward way to avoid paying PMI is by making a 20% down payment upfront, that’s not always possible. If you end up having to cover PMI, it can be removed from your mortgage in one of the following three ways:

  • Once you’ve built up 20% equity in your home, and your LTV ratio no longer exceeds 80%, you can request PMI to be removed. 
  • Once your LTV ratio reaches 78% based on the original payment schedule, your lender must automatically cancel PMI. 
  • Once you hit the midway point on your loan’s amortization schedule and you’re current on your payments, your lender is required to end the PMI the following month, regardless of whether or not you’ve reached a 78% LTV ratio.

Other ways to remove PMI

There are other ways to avoid or remove PMI. If, for example, you’re able to refinance your mortgage and get a sufficiently lower interest rate, that may bring your new loan balance to below 80%. However, refinancing doesn’t make sense for many homeowners right now, due to the surge in mortgage rates over the past period. 

You might also be eligible to stop paying PMI if your home’s value has appreciated since its purchase. That’s because even if you have the same loan balance, the increased value of your home would lower your LTV percentage. To determine if you already reached 80% LTV, you’d need a new appraisal on your home.

FAQs

Borrowers with conventional loans typically pay for private mortgage insurance when they make a down payment of less than 20% of the purchase price. While there are some no-PMI loan options on the market, these are rare, and in many cases, it simply means that the borrower winds up paying a higher mortgage rate to account for the heightened risk for the lender.

Some homeowners use a HELOC or a home equity loan as a piggyback mortgage to eliminate PMI. For example, the first mortgage might be for 80% of the purchase price while the HELOC or home equity loan will be 10% of the purchase price, accompanied by a 10% down payment. This gets rid of the worry of PMI, but it comes with its own set of costs in terms of HELOC interest and any other fees. In some cases, it may be more convenient to simply pay the PMI premiums instead of dealing with two different loans.

When you take out a home equity loan, you use the difference between your home’s worth and what you owe on your mortgage as collateral. Because of this, they’re a popular option to pay for home improvements and consolidate high-interest debt. However, they carry a major risk: If you fall behind on your payments, you could lose your home.

Private mortgage insurance is generally waived with a 20% down payment or a loan-to-value ratio of 80% or less.

Making a higher down payment and paying down your mortgage are two ways to lower your LTV.

Correction, Oct. 18, 2023: An earlier version of this article misstated the effect that a home equity loan will have on your loan-to-value ratio. A home equity loan contributes to your combined loan-to-value ratio, but not your LTV ratio upon which PMI is based.

Editor’s note: The original version of this article was assisted by an AI engine. This article has been substantially revised and edited by CNET Money staff.

Katherine Watt is a CNET Money writer focusing on mortgages, home equity and banking. She previously wrote about personal finance for NextAdvisor. Based in New York, Katherine graduated summa cum laude from Colgate University with a bachelor's degree in English literature.