October 30, 2013 | Posted in:Mortgage

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Downtown Derbygirl Roller Derby PMIFor my first published Case Study, we’re going to look at Downtown Derbygirl and her mortgage situation. She spends her free time competing in Roller Derby matches, and worrying about her financial situation.

She’s kind of in a bad place — at least she thought she was! — and she requested a little bit of guidance to put her back on track.

She bought a house at a young age back in 2007 with $0 cash down at closing. She ended up with a higher than average interest rate, and an obligation to pay Private Mortgage Insurance until her loan’s principle balance was under 80% of the original balance.

What does this mean for Derbygirl? An extra $127/month tacked onto her mortgage payment for the next 7 years, which is an additional 19% charge to her Principle and Interest payment.

So, how does she get rid of this silly insurance charge? She could continue making standard payments, wait it out and end up paying more than an extra $10,000 to the bank over the next 7 years. OR, she could reduce the principle of her loan as quickly as possible to become PMI-free sooner rather than later.

Let’s take a look at Downtown Derbygirl’s cash flow situation. Hopefully we can find some “extra” money for her to pump into her mortgage.

Income

  • $40k pre-tax annually
  • 10% pre-tax 401k contribution (company matches up to 6%)
  • $27k after-tax ($2,200/month)
  • $500 rent/utilities from boyfriend

Total monthly takehome income: $2,700

Monthly Expenses

  • $960 Mortgage
  • $250 Groceries
  • $200  Utilities (varies a lot, used to have roommates, still adjusting)
  • $80 Gasoline
  • $37 Car/Motorcycle Insurance
  • $36 Internet
  • $35 Cell phone
  • $30 Pet food/care
  • $8 Neflix
  • $100 Eating Out (down from $150, but still needs work)
  • $300 Shopping (Walmart trips, bike stuff, household, fitness equip, clothes, gun/ammo)
  • $200 Miscellaneous (furniture, travel/entertainment, etc)

Total monthly expenses: $2,236

And now a brief history of her mortgage situation:

Mortgage

  • $136,000 @ 7.25% + PMI (August 2007, Original Purchase)
  • $131,000 @ 4.5% + PMI (August 2011, Streamline Refinance)
  • $125,500 (Current Loan Balance)
  • $108,800 (80% of Original Purchase. This is where PMI payments end.)

The goal is to get Derbygirl from $125,500 to $108,800 as quickly as possible, so she can rest easy knowing that her finances are no longer under attack.

Not too long ago, she got in her own head. She noticed that her home’s value was only $81,300 according to Zillow.* This led her to believing that, “Since the value of my house is only $81,300, I’d have to get the principle down to $65k to shut PMI payments off.” Unfortunately, for a while she was considering walking away from the mortgage altogether.

The good thing is that the value on Zillow doesn’t matter whatsoever. After knowing this we can clear things up for her. All hope is not lost!

PMI, is a protective insurance measure that banks add to a mortgage payment when a buyer has less than 20% to put down at the time of closing. It provides them with a safety net for “riskier” borrowers. By law, PMI will automatically go away once the loan balance is less than 78% of the original loan value. You can request for them to remove PMI from your payments once your loan value is at 80% of the original loan value (being proactive can save you money!).

She is very economical, and spends modestly in every category from her gas consumption all the way down to her lack of cable TV. BUT, she has 3 line items on her budget that should be reduced down to one category: Eating Out, Shopping, and Miscellaneous (“fun money”). She also does not account for $474 of her spending, which is due to rent money that she collects from her boyfriend in cash.

Combined, these items total $1,064, or 39% of her monthly budget. To enable her to pay down her mortgage, she’s going to need to cut her spending in this category down to about $330 which is a modest 15% of her after tax income. Doing this will free up about $734 every month to jam into the loan. In addition, she needs to collect rent from her boyfriend in check form so she can be more accountable with her spending.

To add a little more padding into her monthly budget, Derbygirl can opt to reduce her 401k contribution from 10% down to the company match of 6%. Since she is in the 25% tax bracket, this reduction would add roughly $100 to her taxable income. This leaves her with a total of $834 in “extra” money that needs a home.

Here is the new plan for Derbygirl:

“Extra” Money

  • $834/month ($734 from budget reductions and $100 from 401k reduction)
  • $700 Monthly “extra” payment on mortgage (New mortgage payment: $1,660)
  • $134 Liquid Savings (Current savings: $500)

Adding an additional $700 to her mortgage payment, she will be able to pass the 80% loan-to-value threshold, key in dropping PMI payments, by May 2015.

That’s only 19 more payments (compared to the 65 payments it would have taken naturally)! By May 2015, her savings account balance will be $3,046, which included $2,546 in contributions between now and then.

Over the span of the next 19 months, Derbygirl is going to witness two more tax seasons. While I’m not going to forecast expected returns, it would be silly to think that she wouldn’t get a decent sized return both times. With her first tax return, she can give this new plan an extra boost, or continue to build a padded savings account. By the time the second tax return is deposited into her bank account, she will be PMI free.

PMI freedom will have her standing at a crossroads: either to invest or to pay off the mortgage as soon as possible. It would take her until April 2023 to pay off the mortgage if she continues at the same rate of attack. If she were to invest the “extra” $700 every month instead she will have amassed around $84k worth of assets (5% compounded inflation-adjusted).

Another thing to think about is the fact that she will no longer be obligated to spend the extra $127 every month on her PMI payment. This will increase her monthly positive cash flow. With that, my advice would be to invest and return to minimal mortgage payments.

To further reduce stress, she could try to figure out a way to increase her hourly pay, or she could develop skills that she could turn into a side hustle for extra cash. When you’re trying to get out of a bad situation, every little bit helps.

We can turn this conversation to investing when Downtown Derbygirl is PMI free. Good luck!

Zillow is a garbage dump of outdated data and inaccurate information. It should not be viewed as factual information.*

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20 Comments

  1. Syed
    October 30, 2013

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    Nice post. Really broke down the numbers to make it clear how much paying extra on your loan can whittle down the balance. Haven’t had to deal with PMI myself but these tactics can certainly apply to any other loans.

  2. Mrs. Pop @ Planting Our Pennies
    October 31, 2013

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    Yay for DerbyGirl!

    Just wanted to add, I’m pretty sure there have been changes to PMI on FHA loans that started this summer for new loans (so they wouldn’t affect DerbyGirl). Seems like now PMI on loans that are > 90% LTV at the start doesn’t expire ever for FHA loans, so the only way to get rid of PMI in that case would be a completely new refi into a new loan – which of course, isn’t cheap either because of the loan origination costs.

    This explains a bit more about the changes at the bottom – http://themortgagereports.com/12740/new-fha-mortgage-insurance-premium-cancellation-policy-effective-june-3-2013

    • Johnny Moneyseed
      October 31, 2013

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      Mrs. PoP — That doesn’t sound like a very friendly law change! I understand that the banks consider you a high-risk if you don’t have the required downpayment, but how can you continue to charge someone a “risk premium” for 30 straight years?! If you can continually make on-time payments for 5, 10, or 15 years wouldn’t you imagine that these borrowers aren’t as risky, as they may have originally seemed?

      Another thing that should be noted is that some banks keep PMI payments in escrow, and return the money back to you once you’ve passed the 80% LTV threshold.

      • Micro
        October 31, 2013

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        That has been an additional reason why I have avoided purchasing a house. I don’t want to risk being saddled with extra interest that would be a big pain to get rid of. I’m looking more at a 20% down payment or nothing right now. I may wind up missing out on a low interest rate but I should have a good down payment saved up whenever I finally decide to settle in at a place.

        • Johnny Moneyseed
          October 31, 2013

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          The only reason I bought any real estate was because we were eligible for VA loans (even with $0 down you don’t have to pay PMI).

          I would never encourage someone to buy over renting when they don’t have at least 20% to put down. A low interest rate will help keep your payments low, but it just gets negated by the PMI or MIP payments.

    • Holly@ClubThrifty
      October 31, 2013

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      When we tried to get the PMI taken off of our home loan, the bank wouldn’t cooperate. Due to some loophole, they wouldn’t take the PMI off until we had paid on the loan for at least 24 months, even though we had 30% equity at that point. Then, even after 24 months, they said we had to pay for an appraisal and wait another few months to get the PMI taken off.

      We ended up just doing a “no cost refi” with Amerisave, minus the PMI, at the same interest rate. The only thing we had to pay for was the appraisal which we would’ve had to pay for anyway.

      And, Amerisave offers no closing costs if you choose a higher interest rate, which we did. But, the “higher rate” was 3.25%, which was the mortgage rate we already had.

      Anyways, the point is that banks are a pain about PMI sometimes!

      • Johnny Moneyseed
        October 31, 2013

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        Holly — What a load of crap! But at least it worked out for you in the end :)

        As Mrs. PoP pointed out, the rules on PMI are changing yet again. Hopefully the reforms are more in favor of the borrower instead of the bank.

  3. writing2reality
    October 31, 2013

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    PMI is certainly an unnecessary burden, and it makes financial sense for Derby Girl to get rid of it. Another way to look at the calculation is to look at the annual yield as a result of that investment. Derbygirl puts in $16,700 in extra principle resulting in an annual savings of $1,524. The yield of this investment? A respectable 9.1%! This of course is excluding the possible tax effects (PMI is deductible), etc. Either way, a wise course of action indeed!

    • Johnny Moneyseed
      October 31, 2013

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      W2R — It’s always nice to see data written out in a different way to reinforce the point. As far as investing goes, you aren’t going to find a guaranteed 9.1% anywhere, so she’d be crazy not to think about it like that!

  4. jlcollinsnh
    October 31, 2013

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    Nicely done, JM.

    The real beauty here is not just off-loading that nasty PMI. Once it’s gone that $700 + $127 can start rolling up DerbyGirl’s F-You Money fund.

    Just like that extra cash grinds off the mortgage in fine style, so too will it build her financial freedom. I can hear the shackles hitting the floor already. :)

    • Johnny Moneyseed
      October 31, 2013

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      Jim — Right on! If she takes the time over the next 19 months to learn how to invest (and to invest well) she’ll be way better off than I was when I was her age!

      $827/month is a pretty significant amount to invest for someone who makes $2,700/month (30%). The odds are that her income will only go up, and she’ll become more efficient with her spending over time.

  5. Prob8
    October 31, 2013

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    Nice work Mr. Moneyseed! I found myself nodding in agreement through the entire post. I noticed Derbygirl is not servicing any debt other than the mortgage. Well done on that front.

    I wondered whether a couple areas could be leaner. The cell phone seems reasonable. However, someone who is hardcore about debt reduction may want to consider a cheaper plan through an mvno. Likewise, utility use should be scrutinized and waste trimmed if possible (are clothes dryers or the hvac system being overused, cfl’s incorporated, power strips, etc.).

    Anyway, good luck to Debbygirl. You’ve certainly put her on the right track. Oh, and it was a pleasure to meet you and Mrs. Moneyseed at Fincon.

    • Johnny Moneyseed
      November 1, 2013

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      She does have room to tighten up in the utility department for sure. Through email traffic she told me that her standard utility bills run anywhere from $100-$200/month. So, when I helped her build her budget I had her plan every month like it was a high spending/usage month, which is why I posted the $200 figure for that specific category.

      To reduce the bill for electricity she should definitely install CFLs, and remove unnecessary bulbs wherever possible (Our dining room table holds 7 bulbs. 3 bulbs provide more than enough light for the space.) Clean off the top of refrigerator. Leave the oven open after cooking during winter months. Utilize fans and cold water bottles during summer months. And like you said, she should install power strips to make cutting off power to multiple not-in-use devices at once easy.

      She doesn’t have any outstanding loans, besides her mortgage of course. This isn’t typical of a Gen Y-er! Kudos to her.

      It was really great meeting you as well. Our two meals together were a couple of the best times we had over the whole trip to St. Louis!

  6. Frankie's Girl
    November 2, 2013

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    I was in the same situation as Holly@ClubThrifty –

    We hit and blew past the 20% equity, requested the PMI removed, and were told that we would have to pay for someone to come in and appraise our home (full-on examination of the outside and inside of our house) to make sure it was still worth at least what the original loan amount was taken out for, or else wait until the time period where we would have naturally had the PMI taken off – something like 4 years later. Independent estimates would have cost us in the neighborhood of $400, which we could have afforded and would have worked out to be less than just waiting out the PMI phase-out, but it was the principle of the thing – we’d always paid on time or early and most of the time double payments… meaning we were NOT a risk, and our property is in a stable middle class neighborhood that was not effected by the housing crash.

    We were offered a no-charge refinance about a month after this (while I was still fuming and trying to figure out what to do) supposedly out of the kindness of their hearts, but further research revealed that they were offering these refis to a blanket market of customers as part of a court settlement/judgement against them for shady loan practices. Whatever, it just meant we got a slightly cheaper interest rate, got rid of the PMI and didn’t have to pay a penny out of pocket.

    So she should be aware that it is common to get the runaround on PMI removal, but there are ways around it… but hopefully she’ll have an easier time of it!

    • Johnny Moneyseed
      November 2, 2013

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      That sounds terrible!

      When exactly did you get your initial loan? Could these issues have been fixed after the housing bubble burst and the new loan underwriting laws were put into effect?

      I know they’ve really tried to remove a lot of the bullshit like this in the past few years to try to protect homeowners.

  7. Lisa E. @ Lisa Vs. The Loans
    November 5, 2013

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    Ahh I love case studies! I would have also recommended she cut back a little bit on her 401k, enough to get the employer match, then use the rest toward getting rid of that PMI!

  8. The Warrior
    November 19, 2013

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    Mrs Warrior and I paid 10% down on our house and then paid around $1500 to “settle” the PMI difference. The total had we paid PMI monthly would have been closer to $4k. So, instead of having small monthly additional PMI hits, we paid the smaller $1500-ish at one time and our monthly mortgage is much less.

    I say this for those who have not bought a house yet and will not have 20% at time of purchase. That way you can find out from your loan specialist how much it would be to just pay the PMI off at time of purchase. Then you need to run the numbers to see if it is worth the one lump sum versus monthly PMI payments (side note: it’s usually better to pay the lump sum right up front as it ends up being less)

    • Johnny Moneyseed
      November 20, 2013

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      That’s pretty amazing. Thanks for the good info on this.

      The other way to put less than 20% down without taking a hit is to join the military. With a VA loan you can put 0% down and not pay any PMI.

  9. Steven @FinandFit
    November 27, 2013

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    On the PMI part is it standard or common to have the PMI insurance locked in for 5 years regardless of the 80% etc? I have a loan with Wells Fargo and I believe the only way to get out of it is to refinance or wait the 5 years(and be at 80% LTV.

  10. Jeremy
    December 23, 2013

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    Johnny, I emailed you regarding how I got out of PMI – an RD loan. That’s rural development from the USDA…yes the same USDA that inspects our meat and such. Basically, if you consider a home in an area that is predominantly rural, they’ll give you a sweet deal. I live in a small city, but it still qualified. I recommend it to friends looking to buy their first home. No PMI!!

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