A piggyback loan is a technique which is increasingly commonly applied in the field of real estate finance. More and more borrowers are using it too, to save them having to take out PMI, which is often an unnecessary drain on their finances. For those that don't know, PMI is a handy abbreviation for private mortgage insurance, often also called primary mortgage insurance for some unknown reason. PMI comes into play when a person applying for real estate finance is in a position where they must borrow 80% or more of the price of the property according to the lender valuation.Log Cabins For SaleCredit: shula @ Morguefile.com

This little percentage calculation is called LVR - another acronym which refers to the loan to value ratio. Let's use an example to illustrate what we're talking about here:

You are looking to purchase a property valued at $250,000 and you have $40,000 for a deposit. That means that you must borrow $210,000 in order to secure the property. Using the calculation:

$210,000 / $250,000 = 84%

This means that the loan to value ratio is 84% and therefore in order to proceed with finance for the property at that level the borrower must take out PMI and therefore be liable for the PMI payments on top of the regular mortgage repayments. On a loan to the value of $210,000 PMI can cost you about $175 every month. This is where a piggyback loan comes into play.

What is a piggyback loan and how can it help me avoid PMI?

A piggyback loan is a type of loan which is specifically designed to get you into a position where your finance requirements are for less than 80% of the loan. In effect, you take out another loan by a variety of means to make that happen. The theory being that by avoiding the need to pay PMI on an increased loan principal, you will save a bunch of money. Let's return to our example above:

By borrowing an extra $15,000 from another source, the loan amount on the original mortgage is reduced to $195,000: let's see how that affects the LVR and your need to take out PMI.

$195,000 / $250,000 = 78%

So by gaining access to a further $15,000 on top of the $40,000 already on hand for a deposit, your total amount you have at your disposal is $55,000. This reduces the value of the loan you need to take out - taking the LVR to 78%. Now we are out of the area of finance that requires PMI. Nice huh?

The extra $15,000 secured to bring the mortgage down to $195,000 is called a piggyback loan. This finance can come from a variety of sources - the most common of which is called a second mortgage. These can often have a higher interest rate than the first mortgage - however the combined payments for the first and second mortgages will be less than that of the higher first mortgage plus the PMI combined.

A piggyback loan can really help reduce the initial cost of your mortgage by reducing the amount payable. If you are in the position where you are looking to purchase property and are looking to avoid paying PMI - then consider a piggyback loan. The terms of these loans are often very flexible, and can leave you with more cash in your pocket at the end of each month than if you had taken out PMI.