PMI Foreclosure Effects
Private mortgage insurance (PMI) is a form of default coverage, where a lender transfers part of the risk associated with a potential default by a borrower onto the loan. The insurer incurs this risk in exchange for receiving a premium that the borrower pays. A borrower should know what to expect in the event he defaults on the loan and the lender forecloses on the property.
Other People Are Reading
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Why Buy PMI?
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Borrowers don't purchase private mortgage insurance because they want to. It is required because their lender is unwilling to give them the loan they request without having PMI in place at the time the loan funds. PMI is commonly found in purchase transactions where the loan-to-value ratio (LTV) exceeds 80 percent. In situations where the borrower provides a lower down payment, the chances of default are increased. The idea in providing PMI is that the lender's risk exposure is equal with what it would have been if the borrower had an equity position in the property that represented 20 percent of the property value.
Who Takes the Loss?
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When property is eventually sold at a foreclosure sale, the buyer is either the lender or a third-party purchaser. With third-party purchasers, it is easy to calculate the lender's potential loss, that is, the difference between the amount the lender is owed on the loan and the amount the third party paid for the property. When the lender ends up with the property, it is carried on the books as "real estate owned" (REO). Eventually, after selling the property, the lender is able to calculate the loss. With PMI in place, part of that loss is effectively transferred to the insurer, who will pay the lender for the insured claim. As a result, in most instances both the lender and the insurer share the loss.
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Understanding Subrogation
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Private mortgage insurers have the right to sue the homeowner to recover the amount they paid a lender because of default. For example, if a borrower purchases a home for $100,000.00 and obtains a loan from a lender for $90,000, the lender requires the borrower to obtain PMI, effectively reducing the lender's exposure to what it would have been if the loan were $80,000 (80 percent of the purchase price). Say the borrower defaults and a foreclosure sale nets the lender $78,000. The insurer's loss would be $10,000, and the lender's loss would be $2,000. Having paid $10,000, the insurer would be entitled to a $10,000 claim against the borrower, assuming that the lender had a legal claim against the borrower for a deficiency judgment. This subrogation right is characterized as both "legal" and "conventional." It's legal because it exists by operation of law and conventional because it is normally contained in the insurance contract the borrower signs and the lender accepts.
PMI Insurer's Next Step
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Foreclosed borrowers should expect to be contacted shortly after the foreclosure sale if a PMI carrier was involved in providing default insurance at the time the loan was made. Borrowers can initially expect threats of litigation. If the insurer concludes that the borrower has sufficient assets or a stream of income to pay the loss, it will likely file a lawsuit.
Borrower Defenses to PMI Insurer Claims
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A fundamental concept to remember about subrogation is the PMI insurer's rights against the borrower that have, as their roots, the claims the lender had against the borrower prior to the insurer paying the claim. That effectively means that any defenses to payment the borrower can raise against the lender are just as effective as when directed to the PMI insurer.
Call a Lawyer
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When contacted by a PMI insurer under these circumstances, it is absolutely critical to seek the advice of competent legal counsel. The laws relating to both subrogation and a lender's post-foreclosure claims to a deficiency judgment are complex. It is best not to face this battle alone, and common sense dictates seeking the services of an attorney.
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References
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