Big Gain, Less Pain

By Daniel Kadlec

Home values in the U.S. are up across the board, and some hot areas, including parts of California, Florida, the Carolinas and the Midwest, have seen torrid price increases of 10% to 15% in the past 12 months. Nationally, the median price for existing homes jumped 5% last year, soundly outpacing an inflation rate of less than 2%. Such numbers are heartening for anyone who stretched to buy a home--most of us, right? Yet for anyone who really stretched, buying with less than 20% down, the gains aren't merely comforting, they're a windfall. This may be their chance to ditch private-mortgage insurance way ahead of schedule.

If you've ever paid PMI you know what a nasty monthly expense it is, totaling up to $1,000 or more each year. As if your mortgage payment weren't enough to kill you, if you bought with only 5% or 10% down, lenders force you to pony up for a policy that protects them if they end up taking your keys in a weak market and selling at a loss. On the bright side, PMI allows roughly 1 million home buyers each year to move in when they otherwise could not afford it. Still, your goal should be to dump this expense as soon as possible.

In July, federal law will begin making that easier by requiring that mortgage servicers (the folks you send your check to) automatically cancel your PMI policy once you've paid down enough of the loan to have 22% equity in your house. The law also requires that lenders inform you annually of where you stand on this pay-down schedule. Sounds good. But the big miss here is that the law calculates your equity based on purchase price, not market price. So for purposes of ditching PMI, according to law you gain nothing from a rising home value. In case you're wondering, it takes about 11 years of a 30-year mortgage for someone who put down 5% to eliminate PMI by this method. That's not very helpful when you consider that the average home buyer moves in seven years. Another shortfall is that automatic cancellation of PMI applies only to mortgages originated after July of this year. So the one you're paying right now doesn't qualify.

Happily, the two 800 lb. gorillas of the mortgage mart--Fannie Mae and Freddie Mac, one of which probably bought your loan in the secondary market--are filling some gaps. In the next week or so, both will issue guidelines insisting that mortgage lenders and servicers doing business with them automatically terminate PMI on all existing loans halfway through their term. And both will opt not to classify any loan as high risk, as the law allows, for purposes of making certain PMI policies more difficult to cancel.

The best news, though, is old news. Fannie and Freddie, along with many mortgage lenders and servicers, have long-standing policies to drop PMI once a homeowner reaches 20% equity, and they calculate that figure including the value of home improvements and market appreciation. But there's nothing automatic about it. You must ask. You must have a record of making timely payments. And you must pay the fee of $250 or so for the bank's appraiser to look over your digs. Be conservative; appraisals are often low. If you run into a lender giving you the runaround, threaten to refinance with a competitor--and, with rates still relatively low, consider doing it if you must. Demand action. With home prices popping, your 5% down payment just a couple years ago might amount to 20% of the equity in your house today.

See time.com for more on mortgages. Dan's new book is Masters of the Universe. See him on CNNfn Tuesdays at 12:45 p.m. E.T.