Will PMI Cover Bad Loans?

By Craig Day, News On 6

SKIATOOK, OK -- President Obama's plan to help the struggling mortgage industry has prompted a good question from a News On 6 viewer.

A viewer from Skiatook e-mailed wanting to know more about the private mortgage insurance that many people are required to pay and whether it can be used to reimburse banks for bad loans.

First off, let's explain private mortgage insurance. Most lenders require PMI from homebuyers who have less than a 20% down payment.

It basically helps people get into homes with less money down, and protects the lender, not the borrower, if someone defaults on a home loan.

"Most people don't understand what mortgage insurance is," said Kelly Highland, Great Plains Mortgage.

The News On 6 asked Kelly Highland, a Senior Loan Officer with Great Plains Mortgage, to answer some questions about PMI prompted by the mortgage bailout bill.

Why is PMI money not being used to reimburse banks for bad loans? Isn't that what it is there for?

PMI isn't required on all loans, including those with more than 20% down and subprime loans, risky loans.

So, many of the risky loans would not be covered by private mortgage insurance. None of the subprime loans had private mortgage insurance. Only Fannie and Freddie loans and the FHA.

Many borrowers with subprime loans couldn't get mortgage insurance, because of things like low credit scores.

"They don't offer those on subprime loans or they didn't offer that. They just had a higher interest rate," said Highland.

Highland also points out, PMI doesn't cover all of what lenders have on the line.

Even if the private mortgage insurance is used, the lender is not guaranteed to get 100% of the value of that house.

"No. They are going to hope that they recoup it from the sale of the property," said Highland.

Highland says it's also important not to confuse private mortgage insurance with mortgage protection. Mortgage protection is a separate insurance policy offered by companies that would pay off a mortgage if you die.

Again, PMI only protects the lender.