Re: Creditor-Placed Insurance Model Act Comments of the American Bankers Insurance Association Concerning the Entire Model Act

Transcription

1 MCINTYRE & LEMON, PLLC ATTORNEYS AND COUNSELORS AT LAW MADISON OFFICE BUILDING TH STREET, N.W. SUITE 1101 WASHINGTON, D.C TELEPHONE (202) FAX (202) Commissioner David Altmaier, Chair Creditor-Placed Insurance Model Act Review Working Group c/o Aaron Brandenburg National Association of Insurance Commissioners 1100 Walnut Street, Suite 1500 Kansas City, MO July 21, 2016 Re: Creditor-Placed Insurance Model Act Comments of the American Bankers Insurance Association Concerning the Entire Model Act Dear Commissioner Altmaier: The American Bankers Insurance Association (ABIA), 1 the insurance subsidiary of the ABA, has provided several comment letters and verbal comments to the Creditor-Placed Insurance Model Act Working Group in connection with its review of the Creditor-Placed Insurance (CPI) Model Act (the Model Act ). Now that the Working Group is entering the drafting phrase, we provide these summary comments on two of the principal issues involved, insurance tracking costs and what the borrower pays to the lender related to CPI. We then address several other issues that the Working Group will likely consider. In Section I, we provide some background on how CPI works and how it is regulated both at the State and Federal levels. Section II examines why it is appropriate to continue to include insurance tracking costs in the calculation of CPI premium for rate purposes, as the Model Act currently provides; like the cost of traditional underwriting, the cost of insurance tracking is an acquisition expense that helps a CPI insurer manage its CPI portfolio risk. In Section III, we substantiate that when a borrower pays a servicer in connection with CPI coverage, the borrower reimburses the servicer for the CPI premium the servicer has paid to the CPI insurer consistent with the treatment of the payment in the current Model Act. Section III also includes a discussion of several issues raised in other sections of the Model Act. 1 The ABIA s members include financial institution lenders that rely on creditor-placed insurance to protect mortgage collateral and insurance companies that underwrite the product.

2 I. Background A. How CPI Works The nature of the mortgage market is such that mortgage lenders and the companies they, or investors, retain to service the loans servicers 2 are obligated to ensure that the collateral securing a mortgage loan is at all times 3 adequately insured against the risk of loss. A mortgage loan agreement requires a borrower to continuously maintain hazard insurance on his residence (referred to as borrowerobtained insurance, or BOI ). If the borrower fails to do so, the mortgage loan agreement permits the servicer to buy substitute insurance so the servicer can maintain required insurance, which the servicer does by arranging for CPI coverage thus satisfying the mortgage lender s (servicer s) obligation to have insurance in place on the property at all times. To effect substitute coverage, the servicer buys CPI in the form of a master policy in the name of the servicer (that is, the named insured), with individual certificates being issued to the borrowers to cover each insured property. The borrower is contractually bound by the mortgage agreement to reimburse the mortgage lender for premiums the lender pays for CPI coverage. And the mortgage lender s interest in the property is co-extensive with that of the borrower; both the mortgage lender and the borrower have an interest in having a damaged structure rebuilt to pre-loss status, and both have the right to file a claim under the CPI policy. B. How CPI is Regulated The requirement that a servicer maintain hazard insurance on loan collateral, in combination with the related contractual obligation for a borrower to maintain hazard insurance, implicates both mortgage servicing laws and state insurance laws. So we now examine the two regulatory regimes involved. Generally speaking, there are two groups of regulators involved in the regulation of CPI as it relates to residential mortgages. First, because CPI is an insurance product, the various state insurance departments regulate the terms of the product as well as the insurers and producers involved in placing the product. The Model Act recognizes state involvement in the regulation of CPI. 2 For purposes of this letter, the term mortgage lender refers to the loan originator or the holder of the loan, if it sold. A servicer is the entity responsible for servicing the loan. Sometimes the mortgage lender and the servicer are one in the same. 3 Fannie Mae Single Family Servicing Guide, Part II, Chapter 6, states: Part of a servicer s responsibility for protecting Fannie Mae s interest in the security property is to ensure that hazard insurance (including flood insurance), under the terms specified in Fannie Mae s Guides, is in place at all times. 2

3 Second, because CPI is written in connection with the extension of credit for personal, family or household purposes, the Consumer Financial Protection Bureau regulates servicers activity in placing CPI via Regulation X, 4 which implements much of the Real Estate Settlement Procedures Act, 5 as do the federal lending regulators (such as the Federal Reserve Board, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency) to some extent. In other words, the focus of the consumer credit regulator is on the mortgage loan agreement between the mortgage lender and the borrower. There should be very little overlap between the two regulatory regimes. 1. State Regulation of CPI Insurers and Producers The existing CPI Model Act states that it applies to an insurer or producer transacting creditor-placed insurance as defined in this Act (Sec. 2(A) of the Model Act); generally, it does not apply to lenders. Thus, the Model Act focuses on the terms of the CPI product, how it is offered, and how it is paid for. Specifically: Section 4 of the Model Act establishes the term of a CPI policy when CPI coverage can first become effective, and the date by which coverage must terminate. Section 5 restricts the amount of coverage CPI premium calculations can be based on. Section 6 prohibits CPI from covering certain types of risks. Section 8 lists the parameters to be used in approving CPI rates. Section 9 requires a CPI insurer to refund unearned premiums. Section 10 sets forth the parameters for claims payments. Section 11 lists the requirements for the servicer (the master policyholder) to be able to seek reimbursement from the borrower for CPI premiums. Section 12 discusses remittance of premiums and commissions. Section 13 requires the mortgage lender to provide the borrower with certain disclosures. 2. CFPB Regulation of Servicers The 2010 Dodd-Frank Act established certain requirements on mortgage lenders and servicers regarding CPI. It focuses on the relationship between the servicer and the borrower. The newly-formed CFPB was granted the authority to regulate mortgage lenders and servicers with respect to CPI. 6 Generally speaking, CFPB regulations prohibit a servicer from charging a borrower a premium for CPI unless the servicer can confirm that the borrower has failed to live up to his or her 4 12 C.F.R U.S.C. Ch Codified at 12 U.S.C

4 contractual obligation to maintain hazard insurance. 7 A notice in the form of two letters is required before a borrower may be required to reimburse a servicer for insurance premiums. The distinction between the two regulatory approaches a state insurance department for the CPI product, and the CFPB for the placement of CPI with respect to a specific property is important when considering how the Model Act should address insurance tracking costs and a borrower s reimbursement of CPI premium payments made by the servicer. II. Insurance Tracking Costs (Section 8 of the Model Act) Insurance tracking costs should continue to be used to calculate CPI premiums because of a critical distinction between the servicer s role and that of the CPI insurer with respect to CPI coverage: the servicer has no need to track insurance coverage, while the CPI insurer must do so to manage its risk. The actors in the secondary mortgage market private mortgage investors, Fannie Mae, and Freddie Mac require the servicer to ensure hazard insurance is in place at all times, and the servicer purchases CPI coverage to satisfy that requirement. The master policy provides that insurance coverage begins immediately upon the lapse of borrower-obtained insurance ( BOI ); consequently, the servicer can be confident it has satisfied its insurance obligation to the mortgage investor once it buys the CPI policy. The servicer need do nothing else, because whether or not it chooses to track BOI, every property in the portfolio will be covered either by BOI, or by CPI insurance automatically upon the lapse of BOI. There will be no lapse in coverage. On the other hand, the CPI insurer must track insurance coverage to prudently manage its risk. To ensure hazard insurance is in place at all times, CPI insurers commit to a servicer to provide automatic, sight-unseen, continuous insurance coverage for all uninsured properties within the servicer s portfolio. These are properties whose borrowers have breached their contractual obligation to at all times maintain adequate BOI coverage. CPI coverage for a particular property comes into existence automatically upon the lapse of a BOI policy but independent of whether anyone is aware of the lapse in coverage. This automatic and continuous issuance of coverage for a particular property enables servicers to meet the secondary market s requirement to continuously maintain acceptable hazard insurance coverage at all times. Because CPI is placed automatically with little or no underwriting CPI insurers must be able to manage their risk contemporaneously with the change in their CPI risk profile associated with the placement of CPI. CPI insurers engage in insurance tracking to manage this risk. This includes an assessment of risk to 7 12 C.F.R (b). 4

5 determine aggregation risk; the amount of premium associated with the risk assumed; probable maximum losses; the amount of capital needed to pay claims, including, but not limited to, if a catastrophe occurs, regulatory required capital; and reinsurance. If the CPI insurer fails to obtain this information accurately and on a timely basis, the insurer could see increases in direct and contributive losses; higher reinsurance costs, or a need to obtain additional reinsurance; an inability to timely pay claims after a catastrophe due to a lack of knowledge of property addresses; uncertainty as to how much capital needs to be held to protect policyholders; and a high rate of false CPI coverage placement (where BOI coverage has not lapsed). Further, much of the foregoing would ultimately affect the cost of CPI coverage. Consequently, exposure management is critical. Tracking asks whether coverage is needed, and if so, how much and what type (i.e., flood, wind, hazard). It is a risk management tool used by insurers. Who should bear that cost? If the servicer pays for hazard insurance tracking, the cost will be passed on to all of the borrowers in a loan portfolio with the large majority of borrowers who continue to maintain required insurance subsidizing the cost of insurance for the very few 8 who fail to live up to their contractual obligation. Conversely, because tracking costs are included in the calculation of CPI premium as the Model Act now provides only those borrowers who have breached their loan agreement (and who receive the benefit of having their home remain insured) pay for insurance tracking. A. CPI Exposure Management (i.e., Insurance Tracking) is a Substitute for Standard Market Underwriting In the non-cpi context, there is no dispute that the property-specific underwriting expenses an insurer incurs to understand its risk are exposure management costs, which are properly reflected in the rate charged for the coverage as an acquisition expense. For CPI insurers who must cover all properties in a portfolio sight unseen, insurance tracking serves as the effective substitute for such property-specific underwriting. Monitoring coverage on all properties in the potential risk pool enables CPI carriers to better understand the risk they are taking. Continuous insurance tracking is therefore an exposure management function for CPI insurers, just as traditional underwriting is for non-cpi carriers. Consequently, the cost of insurance tracking in the CPI context is just as proper to include in the CPI rate (as an acquisition expense) as the cost of traditional underwriting in the non-cpi context is proper to include in a non-cpi rate (as an acquisition expense). By way of summary, the Working Group should keep several important points in mind regarding insurance tracking costs as it proceeds with its deliberations: 8 CPI insurers send notice letters to between 5 and 10 percent of their portfolio, with CPI ultimately being placed on between 1.5 and 2 percent of the portfolio. 5

6 Some have claimed that holders of mortgage loans pay insurance tracking costs to servicers and, consequently, that the inclusion of tracking costs in the calculation of CPI premium would have the borrower being charged twice for insurance tracking. Thus claim is false. A CPI insurer s tracking of whether required insurance is in place on all properties in a loan portfolio has nothing to do with a mortgage servicer s tracking a mortgage loan portfolio. The two tracking regimes serve very different purposes: A mortgage servicer tracks a mortgage loan portfolio on behalf of loan owners/holders/investors to ensure borrowers meet their payment obligations and to remedy a borrower s failure to do so. Insurance tracking is different; a CPI insurer manages its claims exposure by tracking which properties are insured by CPI. There is a difference between the tracking aspects of a loan, such as payment history and escrow management, and the tracking aspects of insurance. Insurance tracking relates directly to the establishment and maintenance of required insurance; it has nothing to do with tracking loans. Some believe CPI insurance premiums should be collected only on properties that have actual insurance claims; but that, of course, is absurd. Not only would it create a moral hazard, but insurance cannot function if coverage is only issued in the event of losses. Some have attempted to argue on a theoretical basis that if only one property in a loan portfolio requires the placement of CPI coverage, then the inclusion of tracking costs in the CPI premium necessarily results in a single borrower paying for insurance tracking for the entire portfolio. This claim is senseless and does not remotely approximate reality. If there were only one borrower who failed to abide by the loan s contractual requirements, the servicer would simply commence a default action, eliminating the need for any CPI and the concurrent need for the CPI insurer to track. Rather, reality reflects that while few (historically, 2 percent or so), there is a group of borrowers who do not maintain adequate hazard insurance, and for that group, CPI is a preferential alternative to the servicer s pursuing an action of default against a borrower. Some have also argued that CPI insurers do not need to track hazard insurance coverage to manage exposure; instead, they rely on a historical average risk distribution model that is applied to the particular portfolio covered by a CPI policy. This claim is also false. The implication from this assertion is that CPI insurers are indifferent to the actual exposure they have with respect to a particular portfolio at any time, which is incorrect and makes no business sense. CPI insurers track insurance on individual properties to manage their risk. While initially a CPI insurer will set rates based on experience, risk constantly changes and requires assessment through insurance tracking of required hazard insurance. It is not 6

7 fiscally responsible to do otherwise. B. Treatment of Tracking Costs in the Current Model Act The current CPI model act includes insurance tracking costs in the calculation of insurance premiums. Section 3(I) defines insurance tracking as monitoring evidence of insurance on collateralized credit transactions to determine whether insurance required by the credit agreement has lapsed, and communicating with debtors concerning the status of insurance coverage. Section 8(E), Alternative 1, provides that in reviewing premium rates, an insurance regulator is to consider insurance tracking costs. All of that language should remain as is. III. Other Comments A. Term of Insurance Policy (Section 4) Sec. 4(A) of the model act sets the parameters for when CPI may become effective. Because of the nature of CPI, it normally becomes effective on a date that occurs in the past. But it is not correct to state it has been back dated which has a negative connotation and does not accurately reflect what occurs when the coverage becomes effective. It is more accurate to state that, pursuant to the insurance contract, the CPI coverage becomes effective on a given date when a condition has occurred (the absence of BOI on the property). The fact that the condition s being fulfilled may occur in the past does not mean that the coverage has been backdated; rather, the effective date of the coverage should be referred to as the date the condition is satisfied (knowledge of which often occurs in the future). We bring this to your attention because some have inappropriately used the term backdating to describe the setting of the effective date of the coverage in the past. That said, the Working Group should be aware that industry would usually not set an effective date of more than a year in the past. B. Calculation of Payments of Premiums (Section 5) Section 5(A)(1) of the model act states that premiums for CPI must be calculated based on a coverage amount that does not exceed the net debt, which Section 3(N) defines as the amount necessary to liquidate the remaining debt in a single lump-sum payment, excluding all unearned interest and other unearned charges. Limiting the CPI coverage amount to the net debt would result in no protection for any equity the borrower may have in the residence. If a home with CPI is destroyed, that could leave the homeowner without any means to purchase a replacement residence. Instead of net debt, the permitted coverage should be limited to the replacement cost of the property. That is consistent with the coverage amount stated by a standard homeowners insurance policy in the section titled Coverage A (Dwelling Coverage) for replacement cost. 7

8 C. Prohibited Coverages (Section 6) Subsection 6(A)(5) of the model act states that CPI coverage shall not include [c]overage that is broader than the insurance coverages that meet the minimum insurance requirements of the credit agreement. In the mortgage context, this provision does not recognize that the BOI coverage being replaced with CPI may be in an amount that exceeds the credit agreement s minimum insurance requirements. To ensure the collateral remains covered to the same extent as that of coverage by the hazard insurance policy, we recommend that Section 6(A)(5) be changed to read as follows: Coverage that is no greater than the last known coverage amount selected by the borrower or, if that amount is unknown, coverage equal to the replacement cost of the property. This language would be consistent with our previous recommendation regarding Subsection 5(A)(1) concerning how premiums for CPI should be calculated. Rather than calculating the coverage based on an amount that does not exceed the net debt, we recommended the calculation be based on an amount that does not exceed the replacement cost. In that manner, the CPI coverage would provide protection for any equity the homeowner has in the residence, coverage that would be needed if the residence had to be replaced. Additionally, during one of the Working Group calls, ABIA was asked to address how a borrower would receive payment under a CPI policy where the insurance pays off the entire loan balance and there are additional funds to pay the borrower for all or part of his equity in the home. Under a CPI policy, the borrower has the ability to file a claim to the extent the insurance loss payment exceeds the outstanding loan balance. The borrower would file the claim for the excess insurance proceeds either through the servicer, or directly with the CPI insurer. The borrower s status is either as an additional named insured on the CPI policy, or as a certificateholder of the policy. In either case, as with BOI coverage, the distribution of the additional insurance proceeds is paid to the borrower, but in the case of repair to a property (as opposed to replacement), the payment would be subject to the insurer s monitoring of the repairs, and it may be in the form of multiple draws to pay the periodic costs of the repair work as they accrue. This protects the servicer (through repair of the collateral continuing alongside the income stream on the loan (rather than just payoff)) and the borrower (through continued use of the home). Regarding Sections 5 and 6, based on what we heard during one of the Working Group s conference calls, we believe there is no disagreement among interested parties with respect to our position on those sections. 8

9 D. Refund of Unearned Premiums (Section 9) Subsection 9(A) establishes a 60-day deadline after termination of CPI coverage for a CPI insurer to refund unearned CPI premium to the borrower. Consumer Financial Protection Bureau regulations provide only 15 days to refund unearned CPI premium after the lender receives evidence that the borrower has satisfied the hazard insurance requirement. 9 We recommend the deadline be changed accordingly with respect to real property. E. Claims (Section 10) Subsections 10(B) and 10(E) do not appear to apply to residential real property transactions, as both subsections reference the salvage value of the property. Therefore, should the Working Group contemplate that the scope of subsections B and E be extended to apply to real property, modifications to the language would be needed. F. Remittance of Premiums and Payment of Compensation (Section 12) 1. Reimbursement of Premium by the Borrower (Subsections 12(A)-(C)) Subsections 12(A)-(C) make it clear that when CPI is in place, the master policyholder (the lender or servicer) pays premiums for CPI coverage to the CPI insurer. There is no requirement in the insurance contract for the borrower to pay those premiums. However, there is a contractual requirement in the mortgage agreement for the borrower to reimburse the servicer for the premiums it paid to the CPI insurer. Consequently, it would be incorrect to state, as some have suggested, that the borrower does not pay any insurance premium and, instead, pays an arbitrary amount set at the servicer s whim. The borrower reimburses the servicer for the premiums the lender, as the master policyholder, pays to the CPI insurer Commissions (Subsection (12)(A)) Current subsection 12(A) states that no commissions may be paid to (or retained by) any person except a licensed and appointed producer. We urge the Working Group to retain that language, as it recognizes the traditional role commissions play in producers placement of insurance. See, for example, Section 13 of the Producer Licensing Model Act (No ), which permits commissions to be paid to a person licensed as an insurance producer C.F.R (g)(2). 10 Subsection 12(B) substantiates this interpretation, as it requires unearned premiums to be credited to the creditor s [borrower s] account ; as does Subsection 12(C), which refers to a portion of the premium charged to the debtor.... ). (Emphasis added.) 9

10 Commission payments to a licensed producer for CPI should be permitted independent of whom a producer works for, even if it is for an insurance agency affiliated with a servicer. To do otherwise would run counter to the framework for functional regulation of insurance set forth in the Gramm-Leach-Bliley Act ( GLBA ), enacted in The GLBA defines the extent to which a depository institution, such as a bank, or an affiliate, is permitted to engage in insurance activities, including the activities of an insurance producer who works for an insurance agency affiliated with a bank. The GLBA recognizes the primacy of state insurance regulatory authority, but it prohibits a state from discriminating against depository institutions or their affiliates that are engaged in insurance activities authorized by the GLBA or other Federal law. Specifically, Section 301 of the GLBA states that [t]he insurance activities of any person, [including national banks], shall be functionally regulated by the States, subject to section (Emphasis added.) Section of the GLBA defines the extent to which a state may regulate the insurance activities of depository institutions. 14 For example, in subsection 104(a), Congress states its intention that the McCarran-Ferguson Act remains the law of the United States, 15 but Congress went on to prohibit a state from discriminating against depository institutions or their affiliates involved in insurance activities vis-à-vis persons engaged in the same activities who are not affiliated with a depository institution (or affiliate). Subsection 104(e) states: Except as provided in any restrictions described in subsection (d)(2)(b) [the safe harbors for a state to regulate depository institutions, and their affiliates, see supra note 14], no State may, by statute, regulation, order, interpretation, or other action, regulate the insurance activities authorized or permitted under this Act or any other provision of Federal law of a depository institution, or affiliate thereof, to the extent that such statute, regulation, order, interpretation, or other action (1) distinguishes by its terms between depository institutions, or affiliates thereof, and other persons engaged in such activities, in a manner that is in any way adverse to any such depository institution, or affiliate thereof; (2) as interpreted or applied, has or will have an impact on depository institutions, or affiliates thereof, that is substantially more adverse than its impact on other persons providing the same products or 11 Pub. L. No U.S.C U.S.C U.S.C. 6701(d)(2)(B) (expressly preserving states authority to regulate insurance sales, solicitation and cross marketing activities in 13 areas); 15 U.S.C. 6701(d)(2)(A) (generally preserving states authority to regulate insurance sales, solicitation and cross marketing activities if the regulation does not prevent or significantly interfere with the ability of a depository institution or an affiliate to engage in the activities) U.S.C. 6701(a). 10

11 services or engaged in the same activities that are not depository institutions, or affiliates thereof, or persons or entities affiliated therewith; [or] (3) effectively prevents a depository institution, or affiliate thereof, from engaging in insurance activities authorized or permitted by this Act or any other provision of Federal law Therefore, it would be inappropriate for the CPI Model Act to restrict the ability of an insurance producer to receive commissions in connection with the producer s placement of CPI, merely because the producer works for a depository institution or an affiliated insurance agency. 3. Insurance Tracking (Subsection 12(D)) Subsection 12(D) prohibits rebates and inducements, but subsection 12(D)(1) states that rebates and inducements do not include an insurer s providing of insurance tracking and other services incidental to the creditor-placed insurance program.... This language should be retained, as it accurately reflects that insurance tracking is an insurer function not a lender function as we discussed earlier regarding Section 8 of the Model Act. 4. Amount of Commissions (Subsection 12(E)) Subsection 12(E) permits an insurer to pay commissions to producers for CPI that are greater than 20 percent of the net written premium as long as the insurer demonstrate[s] the commissions are not unreasonably high in relation to the value of the services rendered. We urge the Working Group to retain this language in the model act, as it recognizes that the scope of services provided by a producer may differ depending on the arrangement involved. G. Disclosures to the Debtor (Section 13) Subsection 13(C) prohibits a lender from imposing CPI charges absent sufficient notice, and it provides a safe harbor for the notice requirement if certain requirements are satisfied. We urge the Working Group to add an additional safe harbor for a lender that complies with the notice requirements set forth by the Consumer Financial Protection Bureau in its regulation governing CPI. 17 Conclusion The current version of the NAIC Model Act appropriately addresses insurance tracking costs, as they are an acquisition cost for CPI insurers just like underwriting costs are for insurers providing other types of insurance. The Model Act also accurately describes what a borrower reimburses a servicer for in U.S.C. 6701(e) C.F.R (c). 11

12 connection with CPI coverage (insurance premium). Producers involved in the placement of CPI coverage should continue to be able to receive appropriate compensation in the form of commissions, as the Model Act currently provides, and that should be the case independent of whether the producer works for an insurance agency affiliated with a lender. ABIA appreciates the opportunity to provide these comments and is available to provide additional information or answer any questions the Working Group may have. Thank you. Sincerely, Chrys D. Lemon 12