MIP Purpose

• The loan approval or underwriting guidelines for FHA loans are not as stringent as conventional loans through a private lender. This allows the FHA to approve loans for people who may not otherwise qualify for conventional loans due to credit or income issues. Since FHA approves loans for people that pose a higher risk of default, it requires its borrowers to pay MIP insurance. This insurance protects the lenders who offer FHA loans against financial losses caused by borrower default. Once an FHA borrower defaults, the lender files a claim for payment with FHA.
  
  

MIP Types

• FHA requires all borrowers to pay an upfront mortgage insurance premium when they obtain an FHA loan. Up-front premium amounts range from 1 to 2.25 percent of the total amount of the borrower's loan. Borrowers generally pay the up-front premium amount at closing. The annual premium on FHA loans ranges from .25 to 1.15 percent of the loan amount. FHA splits this amount into monthly payments and it is usually included in the mortgage payment. When the borrower makes his monthly payment, the lender holds the MIP amount into an escrow account until payment to FHA is due.
  
  

Five-Year Requirement

• All borrowers with FHA-insured mortgages that have a payment term greater than 15 years must make payments on the loan for a minimum of five years before they are eligible to stop paying their MIP. In addition to the five-year requirement, the loan-to-value ratio on the property must be at least 78 percent or lower. This means the borrower must pay down her loan by at least 22 percent to qualify for an annual MIP cancellation. To calculate the 22 percent pay-down, FHA divides the amount owing on the mortgage by the original appraised value of the property.
  
  

Shorter Term Loans

• If a borrower's FHA-insured loan has a term of 15 years or less and put more than a 10 percent down payment on the property, FHA does not require them to pay an annual MIP. If the down payment is less than 10 percent, then the borrower must wait until the LTV ratio reaches 78 percent or lower. The five-year minimum requirement does not apply to FHA-insured loans with a term of 15 years or less.