Home Mortgages and PMI

I don’t understand this aspect at all. When a buyer has a mortgage with less than 20% equity in the home, generally he must purchase PMI. I thought that this insurance protected the bank against losses in foreclosures.

So, since they are insured, why would the bank care or be out any money if they foreclose? Why would they want to work with you at all on your payments?

Or does PMI not do what I am thinking it does?

I think PMI is only available for primary residence, single family dwellings. So, if you buy a 2-family home, you can’t get it. I tried looking up the details, but didn’t immediately find anything definitive. Also, certain types of loans, like FHA loans may not be covered.

Additionally, you probably have to maintain a certain debt to equity ratio else the insurance may be canceled, or it may not cover the extent of the deficit or your premiums may become prohibitive. If you buy a home with little to no money down and its value decreases, which has been the case for many, you may fall out of protection limits.

None of this stuff is on the “front page” to be sure…it’s the fodder for small print.

In any case, banks in general are not in the real estate business. They don’t want your house, they want you to repay the loan they extended to you for the purchase of your house.

So, if I understand you correctly, the banks aren’t being covered by PMI because homeowners don’t have enough equity in their homes? Well, that IS the reason why they require PMI. If PMI doesn’t cover the bank in that situation, then what do they cover?

A very popular sub-prime package were the 80/20 loans, with the 20% HELOC as purchase money, thus circumventing the need for PMI.

I think you’ve got it backwards. I think what Cillasi was saying is that once you’ve got more then 20% equity in your house they cancel the insurance. So you’ve got a $200,000 house with $10,000 paid down and you can’t make your payments anymore so PMI kicks in (or however it works). But, once you’ve paid down $40,001 and you have a problem that’s the issue. The bank (especially with the mortgage crisis going on) would much rather work with you then have to forclose.

PMI only partially protects a lender against losses. The coverage can vary, but a typical maximum coverage amount is 20% of the total loan value.

I had a 80/20 for my primary residence and it’s a traditional 30 year.

Because the banks were generally making loans of the 80/20 type or 95/5 of some other type to avoid PMI. Quite a few people I know got those types of loans and later refinanced them while property values were much higher and avoided PMI entirely.

The sub-prime version wasn’t normally fixed rate. It was usually interest only or adjustable on the 80.

Take a 200k home that had a mortgage of 160k and 20% equity

Suddenly is only worth 150k. The borrower find himself with a 160k mortgage and a home worth 150k. Many just keep on keeping on but…

…say he defaults and the bank has to sell the property, which falls another 10k to 140k.

Plus, the bank has costs of doing business of 20k, and sells the property for 130k. The net of 110k on the house leaves the bank 50k short on the 160k that was lent.

PMI is not really insurance as it’s a way to build equity faster. If 10k was paid in PMI, big whoop. The bank is out 40k instead of 50k.

So, PMI is not insurance? The premiums that are paid go into an escrow fund that the bank keeps if they are forced to foreclose?

Ok, obviously I’m having a hard time understanding; let me give an example. Joe Sixpack buys a home in 2005 for $300,000. He pays 0% down and has an ARM with a PMI payment of $300/mo.

Now, it is 2008, and his ARM adjusts upward to the point where he can no longer pay. He fills his drains up with concrete,leaves the home, and now the bank comes in.

Since he paid interest only, he still has a principle balance of $300,000. The bank finds that the market value for the home is $200,000. It looks like the bank is going to take a loss of $100,000 on the deal.

But, Joe paid PMI premiums for four years, and supposedly this covers…something? Who would get what in return for those premiums?

PMI is insurance. As a condition of the loan offer, the lender is requiring that the borrower take out an insurance policy that protects the lender in case of default. The borrower pays the premiums for the policy. In cases of default, the lender files a claim to try to recover part of or all losses incurred.

In the situation you gave, both the mortgage holder and the PMI company would need to approve the short sale. Assuming the sale went through, the mortgage holder would file a claim with the PMI company for the loss or the maximum value of the insurance policy, whichever is less. The PMI company obviously has an interest in getting as high a price as possible for the forclosed home, as this would reduce the value of the claim and reduce the payout. That said, it’s unlikely that PMI would cover the full $100,000 loss. A maximum claim amount of around $60,000 would be more likely and the mortgage holder would have to eat the remaining $40,000 or so of loss.

The thinking is that if the property is priced fairly, it should be reasonably simple for the lender to sell the property for 80% of its true value. So the lender either requires you to have at least 20% equity or take out PMI. Of course, this plan fails if home prices fall rapidly.