As published in Scotsman Guide's Residential Edition, October 2007.
From New York to Paris, London to Beijing, homeownership is a goal for millions of people. But for some, it is little more than a dream. Why?
Generally, it's because many banks require a downpayment of 20 percent or more. Bankers and lenders often believe loans with smaller downpayments and higher loan-to-value (LTV) ratios are risky and statistically, more likely to default.
But in the past 50 years, banks and other lenders have expanded their lending parameters, and in many developed and emerging countries, they now provide high-LTV mortgages of 90 percent to 95 percent of the value of the property. Sometimes, they even offer 100-percent or 110-percent financing.
Much of this is possible because of the support lenders get from the mortgage-insurance (MI) industry. Not only has mortgage insurance enabled brokers and lenders to offer high-LTV loans, but it also has helped them provide consumers with product choices and access to affordable mortgages.
What is MI?
Mortgage lenders and secondary-market investors in residential mortgage loans rely on MI to protect themselves in case a borrower with little equity defaults and the loan goes to foreclosure. For lenders, this results in a loss from the sale of the mortgaged property.
In the United States, Canada, Australia and many European countries, lenders generally take out MI at loan origination for riskier loans only. Often, it is used for those exceeding a certain LTV threshold, typically 80 percent or more.
Many MI-suppliers in the industry provide products to suit the specific needs and objectives of lenders and secondary mortgage market players. Coverage can be designed with variable terms and levels of protection to reflect local markets, lenders' risk tolerance, and regulatory and capital-market requirements.
In a nutshell, mortgage loans covered by MI -- which provides risk transfer and often capital
relief -- can be easier to sell to investors. Investors can accept MI from highly rated mortgage-insurance companies as a form of credit enhancement in loan sales and transfers, including securitizations and derivatives such as credit-default swaps.
MI also can improve execution for issuers in capital-market transactions for residential mortgage-backed securities. This is because investors and rating agencies recognize the existence of MI on a loan when they determine the credit-enhancement levels on these securitizations. In some markets, such as Spain, covered-bond rules allow for expanded funding eligibility on high-LTV loans if they have mortgage insurance.
Because of the benefits MI offers to borrowers, it is by extension an appealing option for brokers. These can include:
Lessening the gap to homeownership: Without MI, many borrowers would need to save more money for their downpayments. Saving takes time. In time, property values and housing costs can increase. Ultimately, MI can help borrowers get over the downpayment hurdle, accelerate property equity and achieve the longer-term benefits of homeownership. For brokers, this can mean the difference between closing a loan and closing the door on a customer.
Increasing buying power: For example, a borrower who has $20,000 savings can opt for a 20-percent downpayment on a $100,000 home, a 10-percent downpayment on a $200,000 home or even a 5-percent downpayment on a $400,000 home.
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