Note 12 – Loss Reserves

We establish reserves to recognize the estimated liability for losses and loss adjustment expenses ("LAE") related to defaults on insured mortgage loans. Loss reserves are established by estimating the number of loans in our inventory of delinquent loans that will result in a claim payment, which is referred to as the claim rate, and further estimating the amount of the claim payment, which is referred to as claim severity.

Estimation of losses is inherently judgmental. The conditions that affect the claim rate and claim severity include the current and future state of the domestic economy, including unemployment, and the current and future strength of local housing markets. Current conditions in the housing and mortgage industries make these assumptions more volatile than they would otherwise be. The actual amount of the claim payments may be substantially different than our loss reserve estimates. Our estimates could be adversely affected by several factors, including a further deterioration of regional or national economic conditions, including unemployment, leading to a reduction in borrowers' income and thus their ability to make mortgage payments, and a further drop in housing values that could result in, among other things, greater losses on loans that have pool insurance, and may affect borrower willingness to continue to make mortgage payments when the value of the home is below the mortgage balance and mitigation from rescissions being materially less than assumed. Changes to our estimates could result in a material impact to our results of operations and capital position, even in a stable economic environment.

The following table provides a reconciliation of beginning and ending loss reserves for the three months ended March 31, 2013 and 2012:

	Three Months Ended
	March 31,
	2013			2012
	(In thousands)

Reserve at beginning of period	$	4,056,843		$	4,557,512
Less reinsurance recoverable		104,848			154,607
Net reserve at beginning of period (1)		3,951,995			4,402,905

Losses incurred:
Losses and LAE incurred in respect of default notices related to:
Current year		268,793			280,565
Prior years (2)		(2,585	)		56,523
Subtotal (3)		266,208			337,088

Losses paid:
Losses and LAE paid in respect of default notices related to:
Current year		246			280
Prior years		468,933			673,257
Reinsurance terminations (4)		(3,145	)		(425	)
Subtotal (5)		466,034			673,112

Net reserve at end of period (6)		3,752,169			4,066,881
Plus reinsurance recoverables		96,179			142,289

Reserve at end of period	$	3,848,348		$	4,209,170

(1)	At December 31, 2012 and 2011, the estimated reduction in loss reserves related to rescissions approximated $0.2 billion and $0.7 billion, respectively.

(2)	A negative number for prior year losses incurred indicates a redundancy of prior year loss reserves, and a positive number for prior year losses incurred indicates a deficiency of prior year loss reserves.

(3)	Rescissions did not have a significant impact on incurred losses in the three months ended March 31, 2013 or 2012.

(4)

In a termination, the reinsurance agreement is cancelled, with no future premium ceded and funds for any incurred but unpaid losses transferred to us. The transferred funds result in an increase in our investment portfolio (including cash and cash equivalents) and a decrease in net losses paid (reduction to losses incurred). In addition, there is an offsetting decrease in the reinsurance recoverable (increase in losses incurred), and thus there is no net impact to losses incurred.

(5)	Rescissions mitigated our paid losses by an estimated $35 million in the three months ended March 31, 2013 and by an estimated $0.1 billion in the three months ended March 31, 2012, which excludes amounts that may have been applied to a deductible.

(6)	At March 31, 2013 and 2012, the estimated reduction in loss reserves related to rescissions approximated $0.2 billion and $0.6 billion, respectively.

The "Losses incurred" section of the table above shows losses incurred on default notices received in the current year and in prior years. The amount of losses incurred relating to default notices received in the current year represents the estimated amount to be ultimately paid on such default notices. The amount of losses incurred relating to default notices received in prior years represents the actual claim rate and severity associated with those defaults notices resolved in the current year differing from the estimated liability at the prior year-end, as well as a re-estimation of amounts to be ultimately paid on defaults remaining in inventory from the end of the prior year. This re-estimation of the estimated claim rate and estimated severity is the result of our review of current trends in the default inventory, such as percentages of defaults that have resulted in a claim, the amount of the claims, changes in the relative level of defaults by geography and changes in average loan exposure.

Losses incurred on default notices received in the current year decreased slightly in the first quarter of 2013 compared to the same period in 2012, primarily due to a decrease in the number of new default notices received, net of cures, somewhat offset by a smaller benefit from captive arrangements.

The prior year development of the reserves in the first quarter of 2013 and 2012 is reflected in the table below.

	Three months ended March 31,
	2013			2012
	(In millions)
Prior year loss development (1):

(Decrease) increase in estimated claim rate on primary defaults	$	(15	)	$	50
Increase in estimated severity on primary defaults		20			-
Change in estimates related to pool reserves, LAE reserves and reinsurance		(8	)		6
Total prior year loss development	$	(3	)	$	56

(1) A negative number for prior year loss development indicates a redundancy of prior year loss reserves, and a positive number indicates a deficiency of prior year loss reserves.

The prior year loss development was based on the resolution of approximately 23% and 22% for the three months ended March 31, 2013 and 2012, respectively of the prior year default inventory, as well as a re-estimation of amounts to be ultimately paid on defaults remaining in inventory from the end of the prior year and estimated incurred but not reported items from the end of the prior year. Based on recent experience, in the first quarter of 2013, we have lowered our estimated claim rate on defaults that were 12 or fewer months delinquent. This was partially offset by an increase in our estimated claim rate on defaults that were more than 12 months delinquent. In the first quarter of 2012, our estimated claim rates increased on defaults that were more than 12 months delinquent.

The "Losses paid" section of the table above shows the breakdown between claims paid on default notices received in the current year, claims paid on default notices received in prior years and the decrease in losses paid related to terminated reinsurance agreements as noted in footnote (4) of the table above. It has historically taken, prior to the last few years, on average, approximately twelve months for a default which is not cured to develop into a paid claim, therefore, most losses paid relate to default notices received in prior years. Due to a combination of reasons that had slowed the rate at which claims are received and paid, including foreclosure moratoriums and suspensions, servicing delays, court delays, loan modifications, our fraud investigations and our claim rescissions and denials for misrepresentation, it is difficult to estimate how long it may take for current and future defaults that do not cure to develop into paid claims.

The liability associated with our estimate of premiums to be refunded on expected claim payments is accrued for separately at March 31, 2013 and December 31, 2012 and approximated $136 million and $134 million, respectively. Separate components of this liability are included in "Other liabilities" and "Premium deficiency reserve" on our consolidated balance sheet. Changes in the liability affect premiums written and earned and change in premium deficiency reserve.

A rollforward of our primary default inventory for the three months ended March 31, 2013 and 2012 appears in the table below. The information concerning new notices and cures is compiled from monthly reports received from loan servicers. The level of new notice and cure activity reported in a particular month can be influenced by, among other things, the date on which a servicer generates its report, the number of business days in a month and by transfers of servicing between loan servicers.

	Three Months Ended
	March 31,
	2013			2012


Default inventory at beginning of period		139,845			175,639
New Notices		27,864			34,781
Cures		(31,122	)		(37,144	)
Paids (including those charged to a deductible or captive)		(9,445	)		(11,909	)
Rescissions and denials		(532	)		(894	)
Default inventory at end of period		126,610			160,473

Pool insurance notice inventory decreased from 8,594 at December 31, 2012 to 7,890 at March 31, 2013. The pool insurance notice inventory was 26,601 at March 31, 2012. During the third quarter of 2012, approximately 15,600 pool notices were removed from the pool notice inventory due to the exhaustion of the aggregate loss on a pool policy we had with Freddie Mac.

The decrease in the primary default inventory experienced during 2013 and 2012 was generally across all markets and all book years. However, the percentage of loans in the inventory that have been in default for 12 or more consecutive months has increased, as shown in the table below. Historically as a default ages it becomes more likely to result in a claim. The percentage of loans that have been in default for 12 or more consecutive months has been affected by our suspended rescissions discussed below.

Aging of the Primary Default Inventory

	March 31,				December 31,				March 31,
	2013				2012				2012

Consecutive months in default
3 months or less		17,973	14	%		23,282	17	%		22,516	14	%
4 - 11 months		32,662	26	%		34,688	25	%		45,552	28	%
12 months or more		75,975	60	%		81,875	58	%		92,405	58	%

Total primary default inventory		126,610	100	%		139,845	100	%		160,473	100	%

Primary claims received inventory included in ending default inventory (1)		10,924	9	%		11,731	8	%		12,758	8	%

(1) Our claims received inventory includes suspended rescission as discussed in Note 5 – "Litigation and Contingencies." In connection with the Countrywide proceedings, we have voluntarily suspended rescissions of coverage related to loans that we believed would be included in a potential resolution. As of March 31, 2013, coverage on approximately 2,300 loans, representing total potential claim payments of approximately $170 million, that we had determined was rescindable was affected by our decision to suspend such rescissions. Substantially all of these potential rescissions relate to claims received beginning in the first quarter of 2011 or later. As of March 31, 2013, coverage on approximately 300 loans, representing total potential claim payments of approximately $20 million, was affected by our decision to suspend rescissions for another customer for which we also consider settlement probable. In addition, as of March 31, 2013, coverage on approximately 265 loans, representing total potential claim payments of approximately $19 million, was affected by our decision to suspend rescissions for customers other than those for which we consider settlement probable, as defined in ASC 450-20.

The number of months a loan is in the default inventory can differ from the number of payments that the borrower has not made or is considered delinquent. These differences typically result from a borrower making monthly payments that do not result in the loan becoming fully current. The number of payments that a borrower is delinquent is shown in the table below.

Number of Payments Delinquent

	March 31,				December 31,				March 31,
	2013				2012				2012


3 payments or less		28,376	23	%		34,245	24	%		33,579	21	%
4 - 11 payments		32,253	25	%		34,458	25	%		45,539	28	%
12 payments or more		65,981	52	%		71,142	51	%		81,355	51	%

Total primary default inventory		126,610	100	%		139,845	100	%		160,473	100	%

Rescissions

Before paying a claim, we can review the loan file to determine whether we are required, under the applicable insurance policy, to pay the claim or whether we are entitled to reduce the amount of the claim. For example, all of our insurance policies provide that we can reduce or deny a claim if the servicer did not comply with its obligation to mitigate our loss by performing reasonable loss mitigation efforts or diligently pursuing a foreclosure or bankruptcy relief in a timely manner. We also do not cover losses resulting from property damage that has not been repaired.

In addition, subject to rescission caps in certain of our Wall Street bulk transactions, all of our insurance policies allow us to rescind coverage under certain circumstances. Because we can review the loan origination documents and information as part of our normal processing when a claim is submitted to us, rescissions occur on a loan by loan basis most often after we have received a claim. Prior to 2008, rescissions of coverage on loans were not a material portion of our claims resolved during a year. However, beginning in 2008, our rescissions of coverage on loans have materially mitigated our paid losses. In 2009 through 2011, rescissions mitigated our paid losses in the aggregate by approximately $3.0 billion; and in 2012 and the first quarter of 2013, rescissions mitigated our paid losses by approximately $0.3 billion and $35 million, respectively (in each case, the figure includes amounts that would have either resulted in a claim payment or been charged to a deductible under a bulk or pool policy, and may have been charged to a captive reinsurer). In recent quarters, less than 8% of claims received in a quarter have been resolved by rescissions, down from the peak of approximately 28% in the first half of 2009.

Our loss reserving methodology incorporates our estimates of future rescissions and reversals of rescissions. Historically, the number of rescissions that we have reversed has been immaterial. A variance between ultimate actual rescission and reversal rates and our estimates, as a result of the outcome of claims investigations, litigation, settlements or other factors, could materially affect our losses. We estimate rescissions mitigated our incurred losses by approximately $2.5 billion in 2009 and $0.2 billion in 2010. In 2011, we estimate that rescissions had no significant impact on our losses incurred. All of these figures include the benefit of claims not paid in the period as well as the impact of changes in our estimated expected rescission activity on our loss reserves in the period. In 2012, we estimate that our rescission benefit in loss reserves was reduced by $0.2 billion due to probable rescission settlement agreements. We estimate that other rescissions had no significant impact on our losses incurred in 2012 or in the first quarter of 2013. At both March 31, 2013 and December 31, 2012, we estimate that our loss reserves were benefited from anticipated rescissions by approximately $0.2 billion. We expect that the reduction of our loss reserves due to rescissions will decline. For information about two settlements that we believe are probable, as defined in ASC 450-20, see Note 5 – "Litigation and Contingencies."

We do not utilize an explicit rescission rate in our reserving methodology, but rather our reserving methodology incorporates the effects rescission activity has had on our historical claim rate and claim severities. A variance between ultimate actual rescission rates and these estimates could materially affect our losses incurred. Our estimation process does not include a direct correlation between claim rates and severities to projected rescission activity or other economic conditions such as changes in unemployment rates, interest rates or housing values. Our experience is that analysis of that nature would not produce reliable results, as the change in one condition cannot be isolated to determine its sole effect on our ultimate paid losses as our ultimate paid losses are also influenced at the same time by other economic conditions. The estimation of the impact of rescissions on incurred losses must be considered together with the various other factors impacting incurred losses and not in isolation.

If the insured disputes our right to rescind coverage, the outcome of the dispute ultimately would be determined by legal proceedings. Under our policies, legal proceedings disputing our right to rescind coverage may be brought up to three years after the lender has obtained title to the property (typically through a foreclosure) or the property was sold in a sale that we approved, whichever is applicable, although in a few jurisdictions there is a longer time to bring such an action. For approximately 40% of our rescissions since the beginning of 2009 that are not subject to a settlement agreement, this period in which a dispute may be brought has not ended. Until a liability associated with a settlement agreement or litigation becomes probable and can be reasonably estimated, we consider a rescission resolved for financial reporting purposes even though legal proceedings have been initiated and are ongoing. Although it is reasonably possible that, when the proceedings are completed, there will be a determination that we were not entitled to rescind in all cases, we are sometimes unable to make a reasonable estimate or range of estimates of the potential liability. Under ASC 450-20, an estimated loss from such proceedings is accrued for only if we determine that the loss is probable and can be reasonably estimated. Therefore, when establishing our loss reserves, we do not generally include additional loss reserves that would reflect an adverse outcome from ongoing legal proceedings. For more information about these legal proceeding regarding rescissions, see Note 5 – "Litigation and Contingencies."

The liability associated with our estimate of premiums to be refunded on expected future rescissions is accrued for separately. At March 31, 2013 and December 31, 2012 the estimate of this liability totaled $13 million and $18 million, respectively. Separate components of this liability are included in "Other liabilities" and "Premium deficiency reserve" on our consolidated balance sheet. Changes in the liability affect premiums written and earned and change in premium deficiency reserve.

In April 2011, Freddie Mac advised its servicers that they must obtain its prior approval for rescission settlements and Fannie Mae advised its servicers that they are prohibited from entering into such settlements. In addition, in April 2011, Fannie Mae notified us that we must obtain its prior approval to enter into certain settlements. Since those announcements, the GSEs have approved our settlement agreement with one customer and have rejected settlement agreements that were structured differently. We have reached and implemented settlement agreements that do not require GSE approval, but they have not been material in the aggregate.

As discussed in Note 5 – "Litigation and Contingencies," in April 2013, we entered into two agreements to resolve our dispute with Countrywide regarding rescissions. Implementation of the agreements is subject to various conditions. The resolutions of that and other disputes, assuming they occur, may encourage other customers to seek remedies against us. We continue to be involved in legal proceedings with other customers with respect to rescissions that we do not consider to be collectively material in amount. We also continue to discuss with customers their objections to rescissions that are material when all such discussions are considered in the aggregate, and have reached settlement terms with several of our significant customers. In connection with some of these settlement discussions, we have suspended rescissions related to loans that we believe could be included in potential settlements. As of March 31, 2013, approximately 265 rescissions, representing total potential claim payments of approximately $19 million, were affected by our decision to suspend such rescissions. These amounts do not include loans covered by the two Countrywide agreements referred to above nor do they include loans of a customer for which we consider a settlement agreement probable, as defined in ASC 450-20. Although it is reasonably possible that, when the discussions or legal proceedings with customers regarding rescissions are completed, there will be a conclusion or determination that we were not entitled to rescind in all cases, we are unable to make a reasonable estimate or range of estimates of the potential liability.