PMI vs. MIP

• People who take out FHA mortgage loans are required to purchase mortgage insurance premiums, or MIP, in cases where a down payment amount is less than 20 percent of the total loan amount. The same rules apply for people who take out a conventional loan, only PMI coverage is required instead. The FHA sets standardized annual premium rates for MIP based on the percentage of a total loan amount. Home owners actually pay for these premium costs on a monthly basis. The length of the loan -- be it a 15-, 20- or 30-year term -- also affects the overall PMI and MIP cost rates. In terms of a down payment amount, once it's deducted from the total sale price of a home, the remainder becomes the base loan amount, or the amount actually being financed.
  
  

Loan-to-Value Ratio

• When buying a home, the loan-to-value ratio becomes a determining factor when calculating MIP rates on an FHA loan. Mortgage insurance rates vary according to the length of a loan and the down payment amount used. In effect, the loan-to-value ratio is based on the difference between the down payment amount and the base loan amount, or the amount that will be financed. So, a loan-to-value ratio of 90 percent means the home buyer puts down 10 percent of the total loan amount as a down payment. The Federal Housing Administration sets standardized mortgage insurance rates that can change from year to year. Ultimately, the loan-to-value ratio and the loan term determine what the mortgage insurance rate will be.
  
  

Loan Amounts

• PMI or MIP interest rate calculations are based on the total loan amount even though borrower's are only financing the base loan amount once the down payment has been deducted. And while the down payment amount does ultimately influence the mortgage insurance rate, borrowers end up paying a hefty fee whenever a down payment covers less than 20 percent of the total sale price of a home. For example, with a 30 year mortgage loan, a borrower with a 90 percent loan-to-value ratio on a $100,000 home ($10,000 down payment) and a 0.5 percent mortgage insurance rate ends up paying $500 a year. This totals out to an additional $15,000 on top of the base amount ($90,000) financed. A borrower who pays a 20 percent down payment not only avoids this additional loan amount, but pays less in monthly mortgage premiums because of the smaller total loan amount.
  
  

Options to Cancel

• Borrowers do have the option of canceling mortgage insurance coverage once a certain amount of time has passed. PMI and MIP differ in terms of when a borrower can legally cancel their mortgage insurance protection coverage. For FHA loans, the Federal Housing Administration requires borrowers to maintain MIP coverage for the first five years of a loan regardless of how much they've paid on the loan, according to Bills.com, a personal finance reference site. For conventional loans, borrowers can cancel PMI coverage once the loan balance reaches less than 80 percent of the total loan amount. Once again, cancellation guidelines look to the total loan amount as opposed to the base loan or financed amount.