Private mortgage insurance covers only part of the loan--typically, the top 20 percent and the contract usually covers the early part of the mortgage term. The insurance is backed only by the reserves of a private company and such underlying risk remains with the mortgagee.

Private mortgage insurance has grown primarily because it is useful to savings and loan associations that make loans, in localities familiar to them, primarily for retention in their own portfolios. It enables them to make loans that exceed their normal regulatory loan to value limits. Private mortgage insurance has shared in the growth of savings and loan associations; has performed a useful function; and will continue to do so. But it does not take the place of FHA mortgage insurance.

There are several reasons why this is so.

FHA insurance makes mortgages readily and widely marketable, encourages a more diversified, competitive, private mortgage market, with absolute and complete safety of the principal invested. This, along with nearly 100 percent coverage of risk for the life of the loan, makes the mortgage the most widely accepted in the secondary market. That is, investors need not greatly fear that supervening circumstances, such as an unforeseen decline in the value of the property, or severe local economic adversity, will extensively endanger the safety of their investment.

Potential secondary market investors who accept less protection, will take compensating precautions to minimize their underlying risk. This may result in excluding areas of the country or types of property.

If the institution making conventional loans has high net savings inflows pressing for investment, it may liberalize its lending policies to increase its loan volume to meet its investment needs. It may take higher loan to value ratios and the use of private mortgage insurance to cover part of the risk but it will quickly revert to more exclusionary lending practices when its savings inflows are reduced. For example, in early 1973, following heavy net savings inflows, loans with ratios of 90 percent and above were about 12 percent of total conventional home loan originations. As net savings inflows shrank, the percentage of high loan to value ratio loans dropped dramatically. In mid 1976, they were less than 6 percent of conventional loan originations.

It is also clear that FHA serves different customers than mortgage insurance companies. FHA continues to play a unique and leading role in serving low- and moderateincome and younger families, central city areas, and minorities. The average income of FHA borrowers and the average price of the property they buy is lower than that of borrowers with private mortgage insurance and conventional financing. The proportion of minority group homebuyers using FHA insurance is higher. FHA predominates in serving central city areas. FHA loans are used more frequently in financing existing home purchases, helping to preserve older urban areas.

FHA also plays an innovative role which can not be duplicated in bringing the social objectives and consumer protections to the mortgage market as a whole.

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A Necessary Role for Coinsurance

FHA's uses and accomplishments against private mortgage insurance are many and provides possibilities for situations in which FHA coinsurance or risk sharing could serve a useful role. In some types of transactions, coinsurance might provide sufficient protection to meet the requirements of the transaction, more conveniently and at less cost by delegating processing to the lender. In other situations, risks shared among several parties may be the best way--perhaps the only way--to assure the adequate commitment by all the necessary parties to exceedingly risky transactions in older urban neighborhoods. Accordingly, MBA supports authority for FHA to undertake coinsurance as an approach to achieving a sound program of center city lending and urban reinvestment with participation by local financial institutions, commerce and industry, as well as supportive local government and public investment.

At present, investors in FHA mortgages with 100 percent mortgage insurance often take losses in the event of foreclosure, because FHA does not pay all foreclosure costs. This potential for losses adequately assures the investors' interests in not purchasing loans that are likely to be subject to foreclosure and encourages them to make every effort to avoid foreclosure once the loan is made.

Mortgage bankers also have incentives to avoid foreclosure on mortgages with 100 percent insurance because: (1) the loss of a loan ends the servicing income they had hoped to earn, in part to cover their origination cost losses; and (2) a bad record of foreclosures due to their failure to perform puts the privilege of doing business with FHA at risk. Therefore, MBA believes that any greater degree of risk either for the investor or servicer is unnecessary to insure both choice investments and proper servicing.

When Congress passed and FHA promulgated its experimental "coinsurance" program in 1974, a reasonable degree of risk was established to encourage investors in FHA mortgages with 100 percent insurance under the Section 203(b) mortgage insurance program to participate. However, the program as promulgated failed to solve problems that would make the program acceptable to mortgage banker servicers. These included premium collection, marketability, and potentially excessive financial losses for the servicer.

The current FHA coinsurance program has been a failure for several reasons. Very few investors and servicers have chosen to participate. It has not been successful in reducing insurance claims and losses.

MBA believes that coinsurance under certain conditions could improve underwriting quality by giving the loan originator greater incentives to do so.

MBA urges FHA to adopt a system, such as that currently used by the Veterans Administration, where the loan originator's risk of loss is subordinate to the VA's risk of loss.

Why Has FHA Declined/How FHA Can Be Improved

While FHA is an integral part of our mortgage financing system and has served the public well, its role in the home mortgage industry has declined to an extent far beyond what is justified by the ability of conventional lenders and private mortgage insurance companies, to meet fully those segments of the market formally served by FHA.

Several factors have contributed to FHA's unfortunately extensive decline:

For the first four years following the creation of the Department of Housing and Urban Development, the major part of the FHA and its underwriting capacity and the integrated management of its insurance system and field offices remained substantially intact.

Then starting in 1969, several sweeping reorganizations fragmented and virtually destroyed FHA's capacity to serve the public. Integrated management of FHA's insurance system, resources, field staff, and processes was lost. Resources were scattered. Expertise was submerged, diluted or lost. Service to the public declined disastrously; claims and losses increased; delay, confusion, excessive red tape, and bureaucratic indecision were visited upon those who dealt with FHA.

Over a period of years, MBA has considered a variety of ways to make FHA an efficient organization capable of delivering its product in an effective and timely manner. None of this exploration was kept under wraps. MBA discussed the feasibility of a private organization, then of an independent agency, and then of an autonomous agency inside the Department of Housing and Urban Development. But, our present policy is none of these. Rather, it argues for strengthening FHA as an effective tool in the hands of the Secretary.

In this process, it is difficult to convince everyone that you have, in fact, discarded earlier ideas as unworkable. MBA believes that "inside of HUD" must mean "under the supervision and direction of the Secretary," and not merely subject to the supervision and coordination of the Secretary. Accordingly, MBA fully accepts