Most first-time home buyers purchase their homes using mortgages with relatively small down payments. To protect themselves from losses in the event a borrower with such a mortgage defaults early in the life of the loan, lenders typically require borrowers to pay for private mortgage insurance (PMI).
In theory, but not always in practice, the insurance is dropped once the borrower builds up enough equity in the home to give the lender sufficient security to remove any risks of loss to the lender. Testimony before a congressional committee indicated that payment for unnecessary PMI is widespread and sometimes continues over the entire life of a 30-year loan. One analysis of a portfolio of 20,000 loans showed that one in five homeowners was paying PMI unnecessarily.
A new federal law will make it easier to cancel PMI, which could mean substantial savings for a typical homeowner. The Homeowners Protection Act of 1998 will apply to new residential mortgages and refinancings entered into after July 28, 1999. Most such mortgages will be covered, but some government mortgage guarantee programs and high-risk mortgages are exempt.
As a general rule, the Act will require automatic termination of PMI when the borrower's equity in the home reaches 22% of its original value and the borrower is current on mortgage payments. When the amount of equity equals 20%, a borrower with a good payment history may request cancellation of PMI. The Act also requires lenders to notify borrowers at closing, and annually thereafter, of their cancellation and termination rights under the Act.
The primary enforcement mechanism for the Act is private litigation. Borrowing from other consumer credit laws, Congress made lenders who violate provisions of the Act liable to borrowers for actual damages with interest and statutory damages up to $2,000, plus the costs of bringing the action and attorney's fees.