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Be proactive when canceling PMI

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POSTED February 28, 2013 5:43 p.m.

DEAR BENNY: We purchased our home a year ago for $153,000 and put $16,000 cash down. PMI was required. I want to end the PMI as soon as possible and understand that the home equity must reach a certain point (the agent said after two years we could try to get it canceled). Isn’t there a law that if we are current with our payments we can opt out of PMI? We purchased a short-sale home and the value has been appraised higher now. Will that work against us? --Phyllis

DEAR PHYLLIS: I wish it were that simple. No, there is no law that says you can cancel PMI if you are current with your mortgage payments. There was a law enacted several years ago that will give you some, but not a lot of, comfort.

For my readers: PMI stands for private mortgage insurance. Generally, if you obtain a loan of more than 80 percent of the purchase price, lenders will require that you obtain -- and pay for -- this insurance. Basically, it protects the lender in the event it has to foreclose on your property.

For homeowners who purchased after July 29, 1999, you can ask your lender to cancel PMI, so long as you have not been delinquent on your mortgage payments. And when the “loan to value” (LTV) is 78 percent of the original loan, the lender must automatically cancel your PMI.

But don’t hold your breath waiting for the lender to take any action. If you believe you meet this 78 percent benchmark, you should immediately communicate this information to your lender.

But how do you prove this? You should get a professional appraiser to give you a written report. This will cost you in the range of $300-$500. Once you get this number, you have to determine if you qualify. To do this, divide your loan amount by the appraiser’s valuation of your home. For example, in your case you borrowed $137,000 ($153,000 minus $16,000). At that time, the LTV was 89.5 percent ($137,000 divided by $153,000).

So, I hate to tell you that until your loan goes down substantially and your home value increases substantially, you will be stuck with paying the PMI.

One suggestion: If you can afford it, I strongly recommend making extra monthly payments. By doing this, you reduce your mortgage and the interest you pay. If you are able to make those extra payments, make sure that you advise the lender (in writing on your check and on the statement you send in monthly) that you are making extra payments to go to the outstanding balance.

There is some good news, however, for those consumers/homeowners who earn less than $110,000 per year. Congress just extended the right to deduct payments for PMI (mortgage insurance premiums) through 2013 and also retroactive to include last year. When your lender sends you IRS Form 1098 (Mortgage Interest Statement) at the beginning of each year, it should include the amount of mortgage insurance premiums you paid during the previous year.

For more information, go to IRS Publication 936, Home Mortgage Interest Deduction, available online at www.irs.gov/publications.

DEAR BENNY: I’ve just obtained my first rental property and, as of now, my lawyer and I are considering some different options on how to set up the LLC for it.

I ran into some appraisal issues and waited to form the LLC after I closed, so I was unable at the time to assign the title or deed of the house to the LLC at closing.

My lawyer approached me with different options on how to set this up.

The first option is to form the LLC, then assign the homeowners insurance to the LLC along with the deed of the property. Is this wise and could this be done? Should I keep the homeowners insurance out of the LLC and keep it escrowed with my taxes and mortgage?

Should I form a management shell and an LLC, and have the management company run the LLC?

The last option is to go the conventional route and form the LLC, and have the deed or title transferred to the LLC. Any advice that you would be able to give me would be great. --Michael

DEAR MICHAEL: I don’t want to second-guess your attorney, so my comments are general in nature. I do believe that every investment property should be titled in a limited liability company (LLC). Furthermore, if you own more than one investment property, each should be in a separate LLC. Many states have now authorized what are known as “umbrella companies,” whereby all of your various LLCs can be put under one overall (umbrella) company. Talk to your accountant and your attorney about this possibility.

There’s one problem, however. Many states require that a recordation/transfer tax be paid in order to transfer a property into the name of an LLC. Again, talk with your attorney. If the cost is prohibitive, then I would consider just getting as high as possible insurance coverage to protect you. Actually, regardless of how the property is entitled, you should have more than adequate insurance coverage.

If you put the property in the name of an LLC, there are some basic rules you must follow. Do not commingle funds from your personal account (or from any other accounts) into the LLC. If the LLC has to “borrow” money, paper this with a promissory note from the LLC to the lender.

And under no circumstances should you sign any LLC-related document in your personal name. Always -- I repeat always -- add the word “member” or “managing member” next to your signature.

Why put property in an LLC? We are a litigious society and tenants (or next-door neighbors) can file suit against you. If there is a judgment ordered against the LLC -- and if you follow the basic rules -- your personal assets cannot be attached. There is a concept in law that it is difficult to “pierce the corporate veil,” and an LLC is a corporation.

Rely on your lawyer for the specific advice.

DEAR BENNY: My wife and I are purchasing a two-bedroom condo. We are paying cash, and intend to have her parents live there for a year, and then we will likely turn it into a rental.

Our current single-family home is in the name of my wife’s revocable living trust and my revocable living trust. We are trying to determine what the best options are with our rental real estate. We are both professionals, and have worries about liability.

1) Should we purchase the condo in the names of our revocable trusts, and go for the largest liability policy available for the property, i.e., $1 million (or is more recommended)?

2) Should we form a real estate LLC to hold the property? And, if yes, who should be the members: my wife and myself as the members, or create the LLC with the trusts as the members? I know that with a real estate LLC we would need to have a tax ID, business credit card, business checking account, and run the LLC as a business separate from our personal finances.

3) Are there tax considerations we should worry about if we put the condo in the name of the revocable living trusts or LLC? (i.e., Would that set the basis for the property value -- and our children would not get the benefit of a new basis upon our death? We are in our early 40s with a couple of kids). --Brett

DEAR BRETT: As I discussed in an earlier column, I am of the strong belief that any investment property should be in a limited liability company (LLC). Why? Because the LLC -- if you follow the basic rules -- will protect your other assets from attachment should you be sued and the court-awarded judgment is more than your insurance coverage. Worse, in many instances -- such as lawsuits claiming mold -- there may not be any insurance coverage.

But, sometimes -- for whatever reason -- people buy the investment property in their own name and then want to transfer it to an LLC. You have to determine what your state’s recordation and transfer tax (if any) will be to accomplish this. In many states, this cost may just be too prohibitive to justify.

In your case, you are paying all cash and can create the LLC before you buy so that your seller will convey it directly to your new LLC. I don’t think it makes a real difference whether the members of the LLC are you and your wife, personally, or they are the trustees of your trust. You should ask your attorney (and/or financial advisers) this question, since your personal financial situation may be significant in how you do this.

Assuming Congress does not change the law, your children should receive the step-up in basis regardless of how title to the condo will be held. Keep in mind that you indicated you have a “revocable living trust.” For tax purposes, this is known as a “disregarded entity,” so the step-up would apply. On the other hand, if you would have an irrevocable life insurance trust, the law considers this (and it is taxed as a gift) at the time of creation, and thus there would be no stepped-up basis at the time of the grantor’s death.

 

Benny L. Kass is a practicing attorney in Washington, D.C., and Maryland. No legal relationship is created by this column. Questions for this column can be submitted to benny@inman.com.

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