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PMI...What's the Point?

LongTimeListenerLongTimeListener
edited October 2008 in The Economy
I've searched, and if this has been addressed...let me know.

Is the assumption correct that most persons who put down less than 20 percent, are required to pay PMI?

PMI is expensive, approx 0.5% of the loan, burdens the homeowner, and insures the mortgage for the lender if the buyer defaults right?

edit: In other words, did something happen and everyone opt out of PMI (buyer or lender paid) who received these high risk loans? Why aren't the insurance companies covering these loans and protecting the lenders?

Is PMI just a big scam? If they aren't protecting the lenders...why burden the buyer?

Comments

  • ira sira s
    PMI is insurance to offset losses in the case where the buyer is not able to repay the loan AND the lender is not able to recover its costs after foreclosure and sale of the mortgaged property, so it doesn't simply cover the lender if the buyer can't make the payments....And yes, I always thought of it as something of a scam.
  • AlanAlan
    That is a very good question. PMI should prevent the banks from losing their money.
  • The_TimThe_Tim
    To my knowledge, most buyers in the bubble years of '03-'06 that did not have a 20% down payment were avoiding PMI by doing the piggy-back 80/20 loan arrangement. The monthly cost may have been roughly the same as PMI (in the short term anyway), but the perceived benefit of the 80/20 was that interest paid on the 20% loan was tax-deductible, while PMI payments were not (though I believe they are now).
  • LongTimeListenerLongTimeListener
    It still seems odd to me, that with all the talk of a bailout, little mention has been made of PMI.

    It burdens the homeowner, and IS supposed to mitigate the risk assumed by the lender making higher risk loans.

    Tim, with your skill at finding data...is there any way to determine the percentage of default/at risk mortgages that were/are paying PMI?

    It would be nice to hear.....someone at the decision making level address PMI, and why it failed to work, AND why I assume millions of Americans continue to pay for it...

    1 million Americans X $100 PMI/month ~ 600 years to cover the cost of the bailout.
  • rose-colored-coolaidrose-colored-coolaid
    LongTimeListener,

    I think you are confused by what PMI is. Nobody ever paid it because they wanted it to protect them. It's there to protect banks. The bank forces you to take out PMI if you get a larger than 80% mortgage.

    Is it helping banks not lose as much money? The banks are probably secretive about that. Regardless, it would never help out the borrowers. That's why people always try to have 80% down.

    Tim had a good response about how people avoided PMI during the boom.
  • AlanAlan
    The bank that lended the 80% of an 80/20 loan should still have that equity cushion (unless prices dropped past that). The 20% loaner is the one that loses all his money.

    For the 3% and 5% downers, they should have been paying PMI and the losses should go to the insurance company.

    What companies offer PMI insurance? I think I want to short them or something.
  • LongTimeListenerLongTimeListener
    RCC,

    I must not be saying this very well. If lenders protect themselves by having the buyer purchase PMI, and this protects the lender, why are the taxpayers on the hook for $700B?

    In addition, PMI consumes $$ from the buyer. Money, that could be used to make their mortgage payment.

    If PMI doesn't protect the lender, hence the need for a government bailout, I guess PMI can be considered a recurring service fee, for which no service is provided...

    It doesn't make sense to me unless, as Tim said, most borrowers avoided PMI through 80/20 loans offered thru their banks.. but this would have to include all the ARM loans, etc in addition to the 80/20 variety. Isn't it the ARM's that are failing miserably? Was PMI not required on ARM's? If PMI was required, why the need for a bailout?

    Am I making any sense?
  • Charles DeanCharles Dean
    from 2002 - 2006 there were virtually no loans written with PMI. Almost all of them were 80/20's. PMI companies almost went out of business during this period of time.

    As a loan officer, the last 80/20 loan that I wrote was in April 2007.

    So you have two mortgages, usually owned by two different bond investors when a home goes into foreclosure right now. The last of the subprime ARMs will be resetting in Dec/Jan here. Foreclosures from those should be all worked thru the system by this time next year.

    Most 2nd mortgages were actually fixed for 15 years, so are typically a more stable loan than the 1st mortgages that were written at the time.

    It's interesting, but now that 1-2 combos don't exist anymore and everyone is going back to having PMI, the PMI companies probably have more influence than anyone else over underwriting guidelines on mortgages now. Right now they set the rules as they see fit and the lenders and borrowers just have to conform to what they say.
  • rose-colored-coolaidrose-colored-coolaid
    LongTimeListener wrote:
    RCC,

    I must not be saying this very well. If lenders protect themselves by having the buyer purchase PMI, and this protects the lender, why are the taxpayers on the hook for $700B?

    In addition, PMI consumes $$ from the buyer. Money, that could be used to make their mortgage payment.

    If PMI doesn't protect the lender, hence the need for a government bailout, I guess PMI can be considered a recurring service fee, for which no service is provided...

    It doesn't make sense to me unless, as Tim said, most borrowers avoided PMI through 80/20 loans offered thru their banks.. but this would have to include all the ARM loans, etc in addition to the 80/20 variety. Isn't it the ARM's that are failing miserably? Was PMI not required on ARM's? If PMI was required, why the need for a bailout?

    Am I making any sense?

    Well, first - what everybody else said regarding 80/20s. That was a way around PMI, so when those fail the 20% lender chokes up the first losses and the 80% lender feasts on remaining losses.

    Second, even if every loan were PMIed that might not solve our problems. If a loan falls by more than 20%, the bank is still on the hook. If too many loans fell, you could still take down an insurer, even one with reasonable amounts of cash on hand, due to a six-sigma event.

    What's happening today, is pretty well unprecedented. Typically, you reduce risk through diversity. So let's say you insured mortgages in the 20 largest cities across the country "knowing" real estate is local. Well, today you're having your lunch eaten. So, let's say you diversified into stocks and bonds...you're still losing money. How about diversifying into foreign stocks and bonds...you're still not safe. What about commodities...nope.

    It's just a fraught market out there, with too much risk being taken. I don't really see how you can fault PMI for that, especially given what Chuck just posted. Seems like if everyone had been forced to take PMI our bubble would have been smaller, and requirements tighter all along. We probably would see a much smaller crash.
  • WestSideBillyWestSideBilly
    PMI always struck me as a scam. Or at the very least, a completely illogical service fee, as mentioned. It didn't make sense to make the lender pay more to hedge against the lender defaulting during the time when the lender is most likely to default. The difference is not huge, but if someone is on the edge, PMI could ironically put them over it.
  • ira sira s
    WSB: Absolutely!
    If a lender deems you a good enough risk to loan money to, why do they need this "protection"?
    I'd be interested in seeing how much $ PMI paid out and to whom, and what kind of financial shape those companies who received PMI money are in now, what they did with that money ( Buy overpriced real estate, put it under mattresses, spend it on whores and booze..etc.)
  • rose-colored-coolaidrose-colored-coolaid
    I think it depends a lot on the lender. If you are borrowing from a small local bank, maybe they need the protection. If you are borrowing from BOA, they don't really need the insurance, since they are already spread wide enough to cover some losses.
  • Charles DeanCharles Dean
    I can see why people would think of it as a scam, since you are essentially paying for an insurance policy that protects the lender and not you. But if you didn't have PMI on your house, then what would end up happening is that you would then be charged a higher interest rate in order to level out the risk. With 80/20's the 1st mortgage was usually a decent rate, say 6%, then the 2nd mortgage would be much higher. Say like 8.5%. They're making more for their money, but their risk is also greater. If the house goes into foreclosure the 1st note gets paid off first, then if anything else is left it goes towards paying off the second. Higher risk=higher reward.

    Someone who puts 5% down is more likely to default and walk away than someone who puts 20% down. Thus the increase in risk.

    There are actually loan programs out there where you can do a loan with no MI in exchange for a higher interest rate. There are pros and cons to this either way.

    If you had a loan with no MI, but a higher rate, you would be able to have more deductions from your mortgage. However, if you have PMI, and you're in an appreciating market and you don't refinance, you can have the MI removed from your loan once your loan to value ratio gets below 80%.

    So yeah, it does kind of suck, but if you didn't pay it as an insurance policy, then you'd be paying for it in some other way. At least this way the cost is upfront.
  • rose-colored-coolaidrose-colored-coolaid
    Charles Dean wrote:
    So yeah, it does kind of suck, but if you didn't pay it as an insurance policy, then you'd be paying for it in some other way. At least this way the cost is upfront.

    Or nobody would have been allowed to borrow more than 80% until 5 years ago.
  • UbersaladUbersalad
    PMI was the standard for borrowers without 20% downpayment, and in many cases it actually make more sense than to get a 20% HELOC or paying 4% higher for a fixed 2nd mortgage. Once this storm blows over, PMI will probably return as the standard for 80%+ LTV borrowers again.
  • WestSideBillyWestSideBilly
    Charles Dean wrote:
    I can see why people would think of it as a scam, since you are essentially paying for an insurance policy that protects the lender and not you. But if you didn't have PMI on your house, then what would end up happening is that you would then be charged a higher interest rate in order to level out the risk. With 80/20's the 1st mortgage was usually a decent rate, say 6%, then the 2nd mortgage would be much higher. Say like 8.5%. They're making more for their money, but their risk is also greater. If the house goes into foreclosure the 1st note gets paid off first, then if anything else is left it goes towards paying off the second. Higher risk=higher reward.

    Someone who puts 5% down is more likely to default and walk away than someone who puts 20% down. Thus the increase in risk.

    There are actually loan programs out there where you can do a loan with no MI in exchange for a higher interest rate. There are pros and cons to this either way.

    If you had a loan with no MI, but a higher rate, you would be able to have more deductions from your mortgage. However, if you have PMI, and you're in an appreciating market and you don't refinance, you can have the MI removed from your loan once your loan to value ratio gets below 80%.

    So yeah, it does kind of suck, but if you didn't pay it as an insurance policy, then you'd be paying for it in some other way. At least this way the cost is upfront.

    Just as a sample, I ran some numbers:

    $100,000 loan @ 6.5% (100% LTV), 0.5% PMI = $50/mo. $632/mo + $50/mo for the first 12 years (when you get to 80%). ($230k, bank gets $223k of it)

    $80,000 @ 6.5%, $20,000 @ 8% (10 yr) = $742 for 10 years, $506 for next 20. ($211k)

    Using these totally made up numbers, it seems PMI is probably a better situation for all involved.

    It still seems bogus. High risk customers should pay a higher interest rate, rather than low risk customers without a huge downpayment subsidizing the high risk customers.
  • UbersaladUbersalad
    WestSideBilly wrote:
    Charles Dean wrote:
    I can see why people would think of it as a scam, since you are essentially paying for an insurance policy that protects the lender and not you. But if you didn't have PMI on your house, then what would end up happening is that you would then be charged a higher interest rate in order to level out the risk. With 80/20's the 1st mortgage was usually a decent rate, say 6%, then the 2nd mortgage would be much higher. Say like 8.5%. They're making more for their money, but their risk is also greater. If the house goes into foreclosure the 1st note gets paid off first, then if anything else is left it goes towards paying off the second. Higher risk=higher reward.

    Someone who puts 5% down is more likely to default and walk away than someone who puts 20% down. Thus the increase in risk.

    There are actually loan programs out there where you can do a loan with no MI in exchange for a higher interest rate. There are pros and cons to this either way.

    If you had a loan with no MI, but a higher rate, you would be able to have more deductions from your mortgage. However, if you have PMI, and you're in an appreciating market and you don't refinance, you can have the MI removed from your loan once your loan to value ratio gets below 80%.

    So yeah, it does kind of suck, but if you didn't pay it as an insurance policy, then you'd be paying for it in some other way. At least this way the cost is upfront.

    Just as a sample, I ran some numbers:

    $100,000 loan @ 6.5% (100% LTV), 0.5% PMI = $50/mo. $632/mo + $50/mo for the first 12 years (when you get to 80%). ($230k, bank gets $223k of it)

    $80,000 @ 6.5%, $20,000 @ 8% (10 yr) = $742 for 10 years, $506 for next 20. ($211k)

    Using these totally made up numbers, it seems PMI is probably a better situation for all involved.

    It still seems bogus. High risk customers should pay a higher interest rate, rather than low risk customers without a huge downpayment subsidizing the high risk customers.
    Your loan comparison is off.

    100% LTV loan is likely at more than half percent higher than 80/20, and that 20% is likely another percentage higher.

    Also, downpayment is part of the risk calculation. High risk customers do pay a higher interest rate in comparison to the lower risk customers with the same scenario.

    If you want to talk about insurance as scam, the topic should be on title insurance, not MI.
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