- The Washington Times - Wednesday, January 31, 2007

The much anticipated legislation making private mortgage insurance (PMI) premiums tax-deductible finally passed with the Mortgage Insurance Fairness Act last month.

PMI is a monthly premium attached to a mortgage payment for folks whose down payment is less than 20 percent. The logic is simple: The larger the down payment, the bigger the spread between the value of the collateral and the loan size. Borrowers are less likely to default on their mortgage and ultimately lose their home if they have 20 percent (or more) equity at stake.

For folks who put less than a 20 percent down payment, the PMI premium insures a percentage of the equity, reducing the risk to lenders. The premium is equal to about 1/2 percent of the loan amount for a 90 percent loan, and up to 1 percent or more for folks looking for 95 or 100 percent financing.

On a 100 percent financed, $300,000 home, for example, the monthly PMI premium might fall in the range of $3,000 annually, or $250 per month.

I have written various articles over the years comparing the advantages and disadvantages between private mortgage insurance (PMI) and the double loan, “piggy-back” alternative. My conclusions have been static — the piggy-back scenario is better than PMI.

One of the reasons making the piggy-back scenario a better deal is the tax deductibility of mortgage interest on the second trust. PMI premiums weren’t deductible.

Enter the Mortgage Insurance Fairness Act. All homes financed through a purchase or refinance that carry PMI in 2007, as a trial period, will allow the total PMI premium to be deductible, just like mortgage interest, on the federal tax returns.

While this is certainly a step in the right direction that might convince me to endorse a PMI loan, Congress, in its infinite wisdom, complicated the issue.

Two wrinkles in the law left me scratching my head muttering, “Why?”

• The legislation is only good for loan closings in 2007. Congress is supposed to evaluate the law at the end of the year for a possible extension.

• The PMI premium is 100 percent deductible only if household income is $100,000 or less. The deductibility decreases by 10 percent for every $1,000 in annual income that exceeds $100,000. This means that household incomes greater than $109,000 receive zero PMI deductibility.

First, why the trial period? In more than 20 years in the mortgage business, I know one thing for certain: Conventional piggy-back loans have virtually taken the place of single loan, PMI deals. Over the last five or 10 years, my company has written hundreds and hundreds of financing plans with a total loan-to-value that exceeded 80 percent — all with a first- and second-trust combo.

The number of conventional single loans written with PMI can probably be counted on one hand. When the numbers are crunched, the combo is a better deal.

It seems to me that making PMI premiums permanently tax-deductible would finally enable these products to compete with the piggy-back deals. Congress should implement the law and move on to other things.

Second, why limit the deductibility to households with incomes less than $109,000? The interest on second trusts, which usually carry a higher rate, is 100 percent tax-deductible in most cases. What’s up with the discrimination?

The law is typical of Congress: Let’s complicate things for no apparent or important reason.

The biggest advantage of the law will be for folks who take out the government-sponsored, Federal Housing Administration (FHA) loans. While the conventional mortgage market contains many programs that compete effectively with an FHA loan, folks who find an FHA loan to be best suited for them will receive a good tax deduction from the so-called FHA Mortgage Insurance Premium (MIP).

The bottom line: A good loan officer can run the numbers and determine whether a PMI loan is the best alternative for a particular borrower’s situation. The Mortgage Insurance Fairness Act contains restrictions that will exclude many borrowers from taking advantage of the law. Consult a good loan officer and tax adviser before you decide that a PMI loan is the way to go.

Henry Savage is president of PMC Mortgage Corp. in Alexandria. Reach him by e-mail (henrysavage@pmcmortgage.com).

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