What does private mortgage insurance (PMI) protect the lender against?

Private mortgage insurance (PMI) serves as a safeguard for lenders against losses that may arise when a borrower defaults on their mortgage, particularly in the case of foreclosure. When a borrower is unable to make their loan payments, the lender may need to take legal action to foreclose on the property to recover their investment. However, even after the foreclosure process, there might be a situation where the sale of the property does not cover the outstanding loan balance, leading to what is known as a deficiency.

PMI is designed to mitigate this risk. If a lender holds a loan that has PMI and the borrower defaults, the PMI policy provides compensation to the lender for some or all of the loss incurred due to the deficiency. This allows lenders to offer mortgages with lower down payment requirements since PMI reduces their financial risk associated with lending to less established borrowers.

The other scenarios, like market fluctuations, tenant defaults, or losses during property appraisal, do not directly relate to the purpose of PMI. Market fluctuations affect the value of properties but are not insured by PMI. Tenant defaults relate more to rental properties and their risks rather than to loan defaults by homeowners. Similarly, property appraisal issues concern property valuation rather than borrower performance on loan payments.