Bank of America (BAC) has filed a lawsuit with the Securities and Exchange Commission against Mortgage Guaranty Insurance Corporation, the principal mortgage insurance subsidiary of MGIC Investment Corporation (MTG). It said in a filing that the mortgage insurer had rejected a meaningful number of claims filed on a portfolio of mortgages for reasons it considered inappropriate under its contract. Most of the claims rejections were for mortgages that were subprime or without documents, which were issued in 2006 and 2007.

MGIC is attempting to narrow mortgage-related losses by claim rescissions and denials. The company plans to fight back the claims raised against it by Countrywide Home Loans and BAC Home Loans Servicing, but the outcome of this case is uncertain. Historically, rescissions and denials have not been a material portion of MGIC’s resolved claims. However, since 2008, rescissions have materially mitigated the company’s paid and incurred losses. Rescissions mitigated MGIC’s paid losses by approximately $390 million and $839 million, respectively, during the third quarter and first nine months of 2009, compared to $45 million and $97 million, respectively, during the third quarter and first nine months of 2008.

Mortgage insurance denials and rescissions have become more common as insurers seek to minimize damage from mounting losses. Mortgage insurance rescission rates have jumped to 20–25% in recent quarters, relative to historical 7% averages. Moody’s has said mortgage insurers rescinded about $6 billion of claims since Jan 2008 and could rescind another $2 billion to $4 billion of claims during the next few years. During the same period, they have paid out an aggregate $18 billion to $20 billion in claims. Mortgage insurers have been scrutinizing contracts more thoroughly and are denying a greater number of claims. Industry observers said such rejections are more likely to happen over policies insuring mortgage pools rather than those covering individual loans.

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