PMI and escrow accounts
Two recurring mortgage costs that many first-time buyers don't fully understand before they close.
1. What is PMI?
Private Mortgage Insurance (PMI) is insurance that protects the lender — not you — if you stop making payments. It's required on conventional loans when your down payment is less than 20% of the purchase price, because lenders consider high-LTV loans riskier.
PMI is not wasted money in every case — it lets you buy a home sooner with a smaller down payment and often costs less per year than waiting years longer to save a full 20%. But understanding when you can cancel it is important.
2. How much does PMI cost?
PMI typically costs 0.5–1.5% of the loan amount per year, divided into monthly payments added to your mortgage payment. The exact rate depends on your credit score, LTV ratio and the loan type.
| Down payment | LTV | Typical annual PMI rate | Monthly cost on $350k loan |
|---|---|---|---|
| 5% | 95% | ~1.0–1.5% | ~$292–$438/mo |
| 10% | 90% | ~0.6–1.0% | ~$158–$263/mo |
| 15% | 85% | ~0.3–0.6% | ~$79–$158/mo |
| 20%+ | 80% | None | $0 |
Some lenders offer lender-paid PMI (LPMI) — they absorb the PMI cost in exchange for a slightly higher interest rate. This can make sense if you plan to sell or refinance within a few years before you'd have canceled PMI anyway.
3. How to cancel PMI
The Homeowners Protection Act gives you two ways to cancel PMI on conventional loans:
- Automatic cancellation: The servicer must automatically cancel PMI when your loan balance reaches 78% of the original purchase price (not the current value), as long as you're current on payments. This happens automatically — you don't need to request it.
- Borrower-requested cancellation: You can request cancellation once your loan balance reaches 80% of the original purchase price. The lender may require proof that your property value hasn't declined and that you have a good payment history.
If your home has appreciated significantly, you can potentially cancel PMI earlier by getting an appraisal to demonstrate that your current LTV is at or below 80% based on the new value. Policies vary by lender and loan program — call your servicer to ask about their requirements.
4. FHA mortgage insurance vs. PMI
FHA mortgage insurance premium (MIP) is similar in purpose to PMI but operates differently and is generally more expensive long-term:
- Upfront MIP: 1.75% of the loan amount, added to your loan balance at closing
- Annual MIP: 0.55% of the loan per year (for most 30-year FHA loans in 2024), divided monthly
- Duration: If your down payment is less than 10%, MIP lasts for the entire loan term — it doesn't cancel automatically when you reach 80% LTV. To eliminate it, you'd need to refinance into a conventional loan.
This is a key reason to refinance out of an FHA loan once you have 20% equity — the permanent MIP on FHA adds up to tens of thousands of dollars over the life of a loan.
5. What is an escrow account?
A mortgage escrow account (also called an impound account) is a separate account managed by your loan servicer to collect and pay your property taxes and homeowner's insurance. Each month, a portion of your payment goes into the escrow account, and the servicer pays your tax and insurance bills when they come due.
Most lenders require escrow on conventional loans with less than 20% down and on all FHA, VA and USDA loans. With 20%+ equity on a conventional loan, you may be able to opt out.
6. How escrow works
Your PITI payment breaks down as:
- P — Principal (reduces your balance)
- I — Interest (cost of borrowing)
- T — Taxes (monthly escrow deposit toward property tax)
- I — Insurance (monthly escrow deposit toward homeowner's insurance)
The servicer estimates your annual taxes and insurance, divides by 12 and collects that amount each month. Federal law (RESPA) allows lenders to maintain a cushion of up to two months of escrow payments as a reserve.
7. Escrow analysis and adjustments
Once a year, your servicer performs an escrow analysis — comparing what was collected to what was actually paid. Two outcomes:
- Shortage: If taxes or insurance increased more than projected, you'll receive a bill for the shortfall. You can pay it as a lump sum or have it spread over the next 12 months, increasing your monthly payment.
- Surplus: If the account collected more than needed, you'll receive a refund check (if the surplus exceeds $50) and your payment may decrease slightly.
This is why your mortgage payment can change even on a fixed-rate loan — your principal and interest portion never changes, but the escrow portion adjusts annually based on actual tax and insurance bills.
8. Can you waive escrow?
If you have a conventional loan and put down 20% or more, many lenders allow you to waive the escrow account and pay taxes and insurance yourself. Some charge a fee for this (an escrow waiver fee, typically 0.125–0.25% of the loan amount) and some require a minimum credit score.
Waiving escrow means you're responsible for remembering to pay large tax and insurance bills when they come due — typically semiannually or annually for taxes, annually for insurance. Missing a tax payment can result in a tax lien on the property. Many borrowers prefer the convenience of escrow even when they could opt out.