Simply put, mortgage insurance protects the mortgage company against
financial loss if a homeowner stops making mortgage payments. Mortgage companies
usually require insurance on low down payment loans for protection in the event
that the homeowner fails to make his or her payments. When a homeowner fails to
make the mortgage payments, a default occurs and the home goes into foreclosure.
Both the homeowner and the mortgage insurer lose in a foreclosure. The homeowner
loses the house and all of the money put into it. The mortgage insurer will then
have to pay the mortgage companys claim on the defaulted loan.
For this reason, it is crucial that the family buying the home can really
afford it, not only at the time it is purchased, but throughout the time period
of the loan.
Although the cost of the mortgage insurance is paid by the home buyer, or
borrower, the mortgage insurer works directly with the mortgage company.
Mortgage insurance is available to commercial banks, savings & loans and
mortgage bankers, all of whom offer mortgage loans to home buyers.
Remember that mortgage insurance is not the same as credit life insurance,
also called mortgage life insurance. This type of policy repays an outstanding
mortgage balance upon the death of the person who took out the insurance policy.
The Secondary Market
The mortgage companys decision to use mortgage insurance is driven by the
requirements of investors in the mortgage market. Because of the losses that
could occur, major investors require mortgage insurance on all loans made with
low down payments.
The three primary investors in home loans are Federal National Mortgage
Association (Fannie Mae), Federal Home Loan Mortgage Corporation (Freddie Mac)
and Government National Mortgage Association (Ginnie Mae). By purchasing and
selling residential mortgages, Fannie Mae and Freddie Mac help keep money
available for homes across the country.
Unlike Fannie Mae and Freddie Mac, Ginnie Mae does not actually buy
mortgages. It adds the guarantee of the full faith and credit of the U.S.
Government to mortgage securities issued by mortgage companies.
The Two Choices: Government Insurance and Private Insurance
Now that we have explained how mortgage insurance works and why it is
necessary, lets look at the basic kinds of mortgage insurance. Low down payment
mortgages can be insured in two ways -- through the government or through the
private sector. Mortgages backed by the government are insured by the Federal
Housing Administration (FHA), the Department of Veterans Affairs (VA) or the
Farmers Home Administration (FmHA).
Although anyone can apply for FHA insurance, the other two government
mortgage guarantee programs are much more targeted. The VA program is limited to
qualified, eligible veterans and reservists. This program is very specialized,
so contact your mortgage professional for the details. The FmHA insures loans
for the construction and purchase of homes in rural communities.
Obtaining conventional financing is the alternative to obtaining a home loan
backed by the government. Conventional mortgages are all home loans not
guaranteed by the government, including those guaranteed by private mortgage
insurers.
Although government and private insurance are based on the same concept of
allowing families to get into homes with less cash down, there are many
differences between the two. Often, your mortgage professional will play an
important role in suggesting and deciding which insurance is selected.
Home buyers must make a down payment of at least 5% of a homes value to be
considered for private mortgage insurance. However, under some special programs,
the down payment requirement allows the buyer to use a gift or grant to cover 2%
of the 5% down payment required by private mortgage insurers. The gift or grant
may come from a friend, relative, community group or other organization.
Private mortgage insurance is available on a wide variety of home loans and
there is no pre-set limit on the loan amount. Although differences such as these
may affect whether the mortgage company prefers to work with government or
conventional mortgages, your mortgage professional will discuss which one would
be better for your situation.
With the wide variety of loans available, home buyers have the freedom to
choose the type of loan that best suits their needs. Early on in the home buying
process, it is a good idea to meet with several companies to compare the types
of mortgages they offer and shop for the best price and terms. Best of all,
working with a mortgage insurer can be very easy, whether your loan is insured
by the FHA or a private mortgage insurance company, because your mortgage
professional handles all of the arrangements.
By making lending money to home buyers safer, mortgage insurance helps more
families get into homes of their own.
