Avoiding PMI

Q: We have about $90,000 in a high yield money market account from the sale of our first home.  We are in the process of buying a new home for approximately $400,000, and we have a dilemma. I want to put 20% down on our new home in order to avoid PMI fees, but that would use up $80,000 of our savings. My husband wants to put $20,000 down, pay the PMI fees on the mortgage, and keep the rest of money in the money market account.
Can you please help us decide on the best approach?

-Sonia & Victor,  Columbia, MD

A: First, I congratulate you on setting aside the funds required for such a substantial down-payment and earning money market interest in the meantime! You’re making some smart financial decisions.

I also like the idea of avoiding Primary Mortgage Insurance (PMI) as it affords you no protection (this insurance protects the lender) and is expensive – a waste of money in my view. Since you sound so financially responsible, think about this idea: instead of making the 20% down payment needed to eliminate PMI on your primary mortgage, you could actually put down 10 percent, using what is called an 80/10/10 loan strategy. The “80” represents the primary mortgage (in your case it would be for $320,000). The “10” stands for the second mortgage ($40,000 for you) which typically has tax deductible interest, a shorter term and a higher interest rate. The last “10” represents the actual cash down payment. Thus, you would have two loans, a lower down payment, no PMI and a nice cash cushion of about $50,000. Everybody’s happy! Note – I generally recommend keeping an emergency reserve fund of around three to six months of living expenses, so consider whether $50,000 is too much. In addition, I would definitely recommend aggressively paying down the 10 percent equity loan because of the higher interest rate. I hope this helps!