Archive for December 12th, 2012

The Impact of Mortgage Insurance

Without question, the biggest untold story in the foreclosure crisis is mortgage insurance.  Understanding how it works goes a long way in understanding why homeowners can’t get reasonable settlements in foreclosure cases.

Many homeowners, when they take out a mortgage, have to pay for Private Mortgage Insurance, or PMI.  The concept is simple – if the homeowner defaults, the mortgage company is protected, as an insurance company will pay the mortgage in full.

For years, I’ve been bothered at the concept that banks can keep foreclosing on homeowners even though I know that, at least on some percentage of mortgages, there’s an insurance company paying the bank in full.  As I explained here, banks shouldn’t get to collect twice.

How does this dynamic work in the real world?  I found out today the hard way.

I represent a client who has title to a property, subject to the mortgage, but wasn’t the borrower.  Trying to think outside the box, I asked opposing counsel if the bank was interested in accepting a partial payout in exchange for releasing the mortgage or selling the note/mortgage to my client.  I thought the concept was reasonable – there was no “moral hazard” since my client wasn’t the borrower, and the bank should cash out now so as to avoid fighting me in court.

What was the response I got?  Nope, can’t do it.  Well, the bank can do a deal, but it won’t.  Why?  Because there’s mortgage insurance.

The way this perverse system is set up, the insurance company will pay the bank in full, but only if the property goes to foreclosure sale.  If/when the property doesn’t sell for the insured amount at the sale, then the insurance company’s obligation to pay the bank is triggered, and the bank gets paid in full.  If, by some chance, the property sells for more than the insured amount, the insurance company doesn’t have to pay, but the bank collects from the proceeds of the sale.

In both scenarios, the bank gets paid in full … so long as the foreclosure sale goes forward.  And there’s the rub.  The bank can sell the note/mortgage, or the bank can satisfy the mortgage for less than the full amount.  But doing that would eliminate the bank’s ability to collect mortgage insurance … unless the insurance company consented to the bank cashing out without holding a sale.  Predictably, the mortgage company refuses, hoping the property will sell for more than the insured amount at the foreclosure sale, so the insurance company won’t strike a deal with my client.

This is the dynamic with many, many foreclosure cases.  Banks could settle with homeowners.  But why would they?  There’s an insurance company just waiting to write them a check after the foreclosure sale.  And if by chance a third party pays more than the insurance amount, the bank collects from the proceeds of the sale.

So if you’re wondering why banks refuse to make what seem to be reasonable business decisions, wonder no more.  There may well be an insurance company footing the bill … once the foreclosure sale takes place.

Isn’t America grand?  Banks get paid in full while homeowners can’t get reasonable deals because of the perverse dynamic between banks and insurance companies.

Mark Stopa

Posted in Main | No Comments »