In the wake of the recent financial crisis, policymakers in the U.S. have begun to reassess the structure of the U.S. housing finance system and the federal government’s role in supporting the flow of capital to the housing sector. Private mortgage insurers (PMIs) rank among the lesser known yet critical components of the current housing finance system. In order to facilitate continued discussion of housing finance reform, Genworth Financial has asked Promontory Financial Group to prepare this report on the role of PMIs in the current U.S. housing finance system. This document is intended to serve as a detailed reference guide with pertinent commentary for interested parties seeking current and historical perspective on the role of PMIs.

All other things being equal, the risk of loss from a mortgage loan is higher when the borrower makes a smaller down payment. Private mortgage insurance (PMI) enables lenders, loan purchasers, and investors to mitigate default risk on low-down-payment residential mortgages by transferring a portion of this risk to third-party PMIs, which specialize in managing this risk over the long term. PMI takes four basic forms: flow insurance, bulk insurance, pool insurance, and reinsurance. Flow insurance provides coverage on an individual loan basis (under standard terms set forth in a master policy) and is purchased at the time a loan is originated. When a borrower applies for a mortgage loan to finance more than a certain percentage of the value of the home (i.e., a high loan-to-value mortgage), the lender may require that the loan be covered by PMI. While the lender generally selects the mortgage insurance carrier, it passes the cost of coverage on to the borrower. The lender (or any party that subsequently purchases the loan) receives the insurance benefit if the borrower defaults. In bulk transactions, the insurer agrees to provide coverage on each loan in a larger group of loans that generally have already been originated. These loans may have flow insurance already (particularly if the loans are high loan-to-value), in which case the bulk insurance provides a second layer of protection for losses not covered by the existing insurance. Pool insurance involves the insurance of multiple mortgages that are aggregated for purposes of calculating coverage and claims. Under such an arrangement, the insurer will generally cover all losses in the pool up to an aggregate limit of losses. PMIs generally issue pool insurance in connection with mortgage securitizations. Finally, private mortgage reinsurance, in which the primary insurer passes a portion of the risk to a third-party insurer, has generally been written by “captive” reinsurers affiliated with lenders.