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I just requested my bank to cancel PMI, since my balance reached 80%. Bank sent me note that I need appraisal and also my LTV should be 75% since my loan is less than 5 years old. Bank clarified that 75% LTV rule applies since my investor if Fannie Mae.

Also checked with bank that 75% LTV will apply even if I prepay to 78% percent. I am bringing up 78% since this is what in federal law allowing to request cancellation. So is this accurate that bank can overwrite federal law and allow to apply for cancellation at 75% LTV only?

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You're right that federal law does require termination for PMI at 78%--however, as with many laws, there are exceptions.

12 USC 4902 requires the cancellation of "private mortgage insurance" on or after the "cancellation date," which 12 USC 4901 defines as the date that the mortgage reaches 80% LTV (assuming no reductions in the initial value of the property).

Unfortunately, 12 USC 4901 also defines "private mortgage insurance" as:

The term “private mortgage insurance” means mortgage insurance other than mortgage insurance made available under the National Housing Act [12 U.S.C. 1701 et seq.], title 38, or title V of the Housing Act of 1949 [42 U.S.C. 1471 et seq.].

Fannie Mae's operations and limitations are defined as part of the National Housing Act. It appears that that act gives them leeway to define their own cutoffs for PMI termination. They have set that cutoff at 75% for mortgages that are between two years and five years old. It's not that federal laws are being overridden, it's that you are possibly ineligible for PMI termination at this time due to your mortgage's financing.

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