MSN Money
A bailout that works—for lenders
Private mortgage insurance is paying off big for the lenders who had insisted on it—and it's about the only way a buyer with a small down payment can find a loan today.
By Marilyn Lewis
January 23, 2009
Here's a mortgage bailout that's working exactly as intended: Private mortgage insurers are paying out record claims, making up losses incurred by lenders whose loans have gone bad.
Things could have gone even better for the lenders if fewer of them had helped borrowers evade the insurance coverage. Even so, the lenders who were prudent collected $10 billion from policies in the first quarter of 2008 alone, according to The PMI Group, a mortgage insurer. Compare that with the $6 billion the industry lost in all the 1990s, including losses from investments.
"Paying claims as they come due, especially in times of unusual market stress, is exactly the role that mortgage insurers are designed to play, and the industry is meeting its obligations," says Jeff Lubar, a spokesman for Mortgage Insurance Companies of America, an industry group.
Lenders, of course, are glad to have this private safety net. It keeps them in business by allowing them to make more loans to buyers who don't have 20% to put down. But it also makes a huge difference for buyers and sellers in this tightest of credit markets.
"If there was not a PMI market, there would be few loan products offering smaller-down-payment options," says Joe Jackson, a senior vice president at Wells Fargo Home Mortgage. "This would result in fewer people owning homes, as many could not make a 20% down payment."
Piggybacked into a corner
Although the banks make and collect claims, it's the homeowners who pay the mortgage insurance premiums. Today, lenders would be collecting even more from policies had they not helped borrowers sidestep insurance requirements.
Between 2000 and 2006, uninsured mortgages grew from 40% to about 70% of home purchases, according to an industry source. In other words, the number of insured mortgages fell by about half. That's mostly because lenders sold homebuyers packages of "piggyback" loans -- a first mortgage for 80% and another loan, usually a home equity loan, to cover the down payment. This combination was the basis of the infamous "no down payment" or "0% down" loans.
The lenders reaped multiple sales fees on the loans, and, because they usually resold the mortgages to investors or to Fannie Mae or Freddie Mac, the increased risk apparently didn't deter them. For their part, buyers were eager to spend their borrowed dollars on the price of the house itself, becoming willing accomplices. Piggybacks rose from 20% of all loans in 2001 to about 65% at the top of the boom, in 2006.
Banks have almost entirely stopped offering piggybacks today. But the damage from them continues to drag down the entire economy as the chickens come home to roost.
"The rise in delinquencies and defaults on loan payments may continue for a longer time than expected earlier, leading to increased losses for the mortgage insurers," Zacks Investment Research reported in November.
"Clearly, it's a tough time for anybody associated with the housing industry," says Tom Taggart, a spokesman for The PMI Group.
Recently, more lenders have begun insisting on mortgage insurance: 14.7% of loans were privately insured in 2007, according to the latest statistics, up from 8.5% in 2005. (Many others are backed by the Department of Veterans Affairs or the Federal Housing Administration.) With piggyback loans virtually unavailable today, that figure is doubtless much higher now.
Who gets the money?
When a homeowner can't make mortgage payments, a process all too familiar these days kicks into gear: foreclosure. It may take many months, but eventually, if the owners can't sell their homes, they have to leave, and they lose any equity.
If the loan was covered by private insurance, here's what happens:
- Once the deed belongs entirely to the lender (or the investor who bought the mortgage), the loan's "servicer" (the company that sends out bills to borrowers, collects payments and forwards them to the investor) files a claim for the loan balance plus expenses.
- That takes around 60 days. It can take longer if additional documents are needed or an investigation is required, says PMI Mortgage Insurance spokesman Joel Luebkeman.
- The mortgage insurance company sends a payment to whoever holds the note (the loan). That might be an investor, an investor group, a lender or Fannie Mae or Freddie Mac. If the mortgage was sold as part of a bundle of securitized loans (called a bulk transaction), the payment goes to the investment trust. But most of the loans that were securitized were not insured, Lubar says.
One interesting wrinkle: The claim would pay just 25% of the home's insured value, plus expenses for things such as boarding up the house and paying lawyers. It doesn't sound like much until you consider that the investor also gets to sell the house.
Generally, 25% has been enough to make the investor whole, Luebkeman says. "The intent is that they break even. When they remarket the house, maybe they're going to take a small loss but nothing like they would have taken had they not had the insurance."
These days, though, investors are taking losses in regions where homes have lost huge amounts of their value and must be resold at a big discount. "If the property is in Stockton, Calif., or Orlando, Fla., and you've had significant depreciation, it may not have been (sufficient)," Luebkeman adds.
Putting homeowners in the game
For those who can buy a home these days, mortgage insurance is once again a crucial piece of the transaction. There are a lot of people, even in depressed markets, who can't or don't want to put 20% down but still want to buy a home. That's where mortgage insurance comes in, says Taggart, the PMI Group spokesman.
Buyers without that 20% down usually get insurance one of two ways: conventional loans with coverage by a PMI provider or through loans backed by the Federal Housing Administration or the Department of Veterans Affairs.
Here's how it works:
- Say you want to buy a home for $300,000 but you've got only $30,000—10%—to put down.
- Fine, your lender says. You can still buy the house, but you must buy private mortgage insurance.
- A premium might run, for example, $1,512 a year ($126 a month). That's 0.56% of your loan amount ($270,000), roughly equivalent to a 13th monthly mortgage payment each year. Premiums vary from company to company and cost more with smaller down payments. The better your credit scores, the less you pay. (Here's a PMI estimator.)
- Once your equity in the house reaches 20% you can cancel the insurance. (Here's a step-by-step guide to canceling by the Mortgage Insurance Companies of America.)
- Mortgage insurance can be deducted from your taxes, though the deduction is scheduled to expire in 2010.