Homeowners Protection Act - Federal Reserve

1 Homeowners Protection ActBackgroundThe Homeowners Protection Act of 1998 becameeffective in July 1999. The act, also known as thePMI Cancellation Act, addresses the difficultieshomeowners have experienced in canceling pri-vate mortgage insurance (PMI) coverage. It estab-lishes provisions for the cancellation and termina-tion of PMI,1sets forth disclosure and notificationrequirements, and requires the return of , lenders have viewed an 80 percentloan-to-value (LTV) ratio (and a corresponding20 percent down payment) as a prudent standardfor making consumer real estate loans. This ratiohas served to ensure that the borrower had enoughof an interest in the property to continue to makethe payments and, in the event the borrower wasunable to make the payments, that the lender hadsufficient equity available to cover lender foreclo-sure housing prices increased (and the corre-sponding down payment amounts increased),saving for a sufficient down payment becamedifficult for many prospective Homeowners .

2 To fur-ther the goal of making homeownership attainablefor moreAmericans, lenders began to look for waysto balance the increasing demand for home loanswith the risks inherent in providing loans that felloutside the 80 percent LTV standard. PMI, whichis activated only if the borrower defaults on theloan, helps address a lender s risk by covering thedifference between the amount a borrower hasavailable to put down and the amount suggestedby the standard 20 percent down payment rule. Ineffect, PMI helps mitigate a lender s risk on loansfor which the down payment is less than 20 percentof the sales price or, for a refinancing, when theamount financed is greater than 80 percent of theappraised protects lenders from the risk of default andforeclosure.

3 It allows prospective buyers whocannot, or choose not to, make a significant downpayment to obtain mortgage financing at anaffordable rate. It is used extensively to facilitate high-ratio loans (generally, loans for which theloan-to-value ratio exceeds 80 percent). With PMI,the lender is able to recover the costs associatedwith the resale of foreclosed property as well as theaccrued interest payments and the fixed costs,such as taxes and insurance policies, paid beforethe resale. Once the consumer s loan balance fallswithin the 80 percent LTV ratio, PMI is no longerneeded. Excessive PMI coverage provides littleextra Protection for a lender and does not benefitthe implementation of the act, many home-owners experienced problems in canceling some instances, lenders may have agreed toterminate coverage when the borrower s equityreached 20 percent, but the policies and pro-cedures used for canceling or terminating PMIcoverage varied widely among lenders.

4 Homeown-ers had limited recourse when lenders refused tocancel their PMI coverage. Even Homeowners inthe few states that had laws pertaining to PMIcancellation or termination noted difficulties in can-celing or terminating their PMI policies. The actprotects Homeowners by prohibiting life-of-loanPMI coverage for borrower-paid PMI products andestablishing uniform procedures for the cancella-tion and termination of PMI and Effective DateThe act applies primarily toresidentialmortgagetransactions, defined as mortgage loan transac-tions consummated on or after July 29, 1999, thepurpose of which is to finance the acquisition, initialconstruction, or refinancing2of a single-familydwelling that serves as a borrower s also includes provisions relating toannual written disclosures forresidentialmort-gages.

5 Defined as mortgages, loans, or otherevidences of a security interest created withrespect to a single-family dwelling that is theborrower s primary residence. Condominiums,townhouses, and cooperative or mobile homes areconsidered single-family dwellings covered by act s requirements vary depending onwhether the mortgage Is a residential mortgage or a residential mort-gage transaction Is defined as high risk (either by the lender, in the1. The act does not apply to mortgage insurance madeavailable under the National HousingAct, title 38 of the Code,or title V of the HousingAct of 1949, including mortgage insuranceon loans made by the Federal Housing Administration andguarantees on mortgage loans made by the Veterans For purposes of this discussion,refinancingmeans therefinancing of a loan any portion of which is intended to providefinancing for the acquisition or initial construction of a single-familydwelling that serves as a borrower s primary For purposes of this discussion.)

6 Junior mortgages thatprovide financing for the acquisition, initial construction, orrefinancing of a single-family dwelling that serves as a borrower sprimary residence are Compliance HandbookHOPA 1(11/07)case of nonconforming loans, or by Fannie Maeor Freddie Mac, in the case of conforming loans) Has a fixed rate or an adjustable rate Is covered by borrower-paid or lender-paidprivate mortgage insuranceCancellation and Termination of PMI:Non-High-Risk Residential MortgageTransactionsBorrower-Requested CancellationsA borrower may initiate cancellation of PMI cover-age by submitting a written request to the servicer must take action to cancel PMI when The principal balance of the loan Is first scheduled to reach 80 percent of the original value 4(regardless of the outstand-ing balance), based on The initial amortization schedule (in thecase of a fixed-rate loan) The amortization schedules (in the case ofan adjustable-rate loan)

7 Or Reaches 80 percent of the original value, based on actual payments The borrower has a good payment history5 The borrower satisfies any requirement of themortgage holder for Evidence of a type established in advancethat the value of the property has not declinedbelow the original value and Certification that the borrower s equity in theproperty is not subject to a subordinate lienOnce PMI is canceled, the servicer may notrequire further PMI payments or premiums morethan thirty days after the later of (1) the date onwhich the written request was received or (2) thedate on which the borrower satisfied the mortgageholder s evidence and certification requirements,described TerminationA servicer must automatically terminate PMI forresidential mortgage transactions on the earliestdate that both The principal balance of the mortgage is firstscheduled to reach 78 percent of the originalvalue of the secured property (based solely onthe initial amortization schedule , in the case of afixed-rate loan, or on the amortization schedules,in the case of an adjustable-rate loan, regardlessof the outstanding balance)

8 And The borrower is current on mortgage PMI is terminated, the servicer may not requirefurther payments or premiums of PMI more thanthirty days after (1) the termination date or (2) thedate following the termination date on which theborrower becomes current on the payments, which-ever is is no provision in the automatic-terminationsection of the act, as there is in the borrower-requested PMI cancellation section, that protectsthe lender against declines in property value orsubordinate liens. The automatic-termination provi-sions make no reference to good payment history(as prescribed in the borrower-requested provi-sions)

9 But state only that the borrower must becurrenton mortgage TerminationIf PMI coverage on a residential mortgage transac-tion was not canceled at the borrower s request orby the automatic-termination provision, the servicermust terminate PMI coverage by the first day of themonth following the date that is the midpoint ofthe loan s amortization period if, on that date, theborrower is current on the payments required bythe terms of the servicer may not require further payments orpremiums of PMI more than thirty days after PMI cancellation and termination provisions applyonly to residential mortgage transactions for whichthe borrower pays the PMI.

10 The provisions do notapply to those for which someone other than theborrower makes the of Unearned PremiumsThe servicer must return all unearned PMI premi-ums to the borrower within forty-five days aftercancellation or termination of PMI coverage. Withinthirty days after notification by the servicer ofcancellation or termination of PMI coverage, amortgage insurer must return to the servicer anyamount of unearned premiums it is holding, topermit the servicer to return such premiums to defined as the lesser of the sales price ofthe secured property, as reflected in the purchase contract, or theappraised value at the time of loan A borrower has a good payment history if he or she (1)