Gretchen Morgenson's January 22, 2012 article in the New York Times titled "Hazard Insurance With Its Own Perils", shines a light on this overlooked major profit center of the mortgage industry. Morgenson points out this is a 6 billion a year business.
How does it work? Lenders require homeowners to purchase hazard insurance. Force-placed insurance oppurtunities arise for the lender when either (1) a homeowner in financial difficulty allows their hazard insurance to lapse if not escrowed or (2) if paid through escrow the homeowner allows the mortgage to lapse. Now the servicer buys force-placed insurance. This insurance is typically three times the price of a standard hazard policy without the same benefits. Force-placed insurance does not provide the homeowner either liabilty or personal content insurance (just fire insurance). Force-placed insurance only protects the lender but the homeowner pays. Force-placed insurance is added to escrow and causes the monthly payment to increase accordingly. One can easily see the likelihood of a homeowner defaulting on their mortgage due to the increased monthly cost leading to a foreclosure.
Morgenson also points out that many times the mortgage servicers and the insurers are affiliated. Do I hear the word conflict?
It's definitely a major source of profit for mortgage company's especially if they're giving out tons of loans that people can afford. In the short term it may be great but bankruptcy goes around and comes around pretty quickly if you're not careful.
Posted by: Benjamin Skinner | January 24, 2012 at 12:59 PM