What is MIP? No, it’s not the sound some electronic toy or robot might make. It’s a mortgage insurance premium. If you’re a first-time homebuyer who made a down payment of less than 20% on your property, your lender and mortgage are most likely insured — in the event you later default on your loan — by the Federal Housing Administration (FHA). This also means that as part of your monthly loan payments, you’re paying MIP, which is required by the FHA.
There are two MIPs involved with FHA-insured loans: an upfront payment of 1.75% when the loan is issued, and then the annual premium, which is divided into monthly payments for the duration of the loan at rates ranging from 0.7% on a 15-year loan to 0.85% on a 30-year mortgage. For home loans greater than $625,000, the annual MIP climbs to 1%.
So what might be a homeowner’s actual MIP cost? For someone who’s borrowing $200,000 for a home for sale in Houston, TX, for instance, the upfront MIP at closing time would be $3,500 (or 1.75 % of the loan). Monthly payments vary by down payment amount, the length of the loan (15 or 30 years), and other factors. But for this $200,000 loan example, let’s say you put $7,000 down (which is the FHA’s required minimum down payment of 3.5%). The monthly MIP payment would be roughly $143 per month, or $1,725 spread throughout the year.
Many first-time homebuyers find FHA-backed loans attractive, because the down payment can be as low as 3.5%, which for many people is more achievable than the 20% down payment that private lenders prefer. You can also get approved for an FHA loan with a low credit score (although you’ll still need two lines of credit and proof that you’re paying off any credit card debt) and still get a good, low interest rate. These relaxed restrictions result from the lenders themselves not taking on the risk of loan default; rather, the federal government takes on that risk. Helping the government fund the program, and back its risk, are the upfront and monthly MIP costs.
As a general rule, if you’re looking for a home loan with a low down payment and relaxed credit restrictions, an FHA-backed loan is for you. But before deciding to go that route, remember that there is the monthly MIP pitfall — and maintaining your loan can end up costing you a lot over the length of the loan, especially if you’re working on a 30-year mortgage. You may find private mortgage insurance on a conventional loan is less expensive and more attractive in the long run than the MIP payments required with an FHA loan.
Mortgage lenders themselves often offer homebuyers this advice: Anyone with a credit score below 700 should compare both FHA and conventional financing; however, those with a credit score in the low to mid-600s or below most likely will be better served with a loan backed by the FHA.