Flood Insurance Requirements

Flood Insurance Requirements Patti Joyner Blenden, CRCM Financial Solutions April 2018 1 Flood Disaster Protection Act (FDPA) Requires homeowners in flood hazard areas to purchase insurance to close a mortgage Imposes significant responsibilities and corresponding penalties on banks Provides a process to request a secondary review by FEMA for changes or due to errors Allow reasonable reimbursement to the bank for compliance costs Flood determination Forced placed insurance 2

Key Flood Insurance Legislation 1928 Flood Control Act Declared control of Mississippi River a national issue and cost should be borne by the nation National Flood Insurance Act of 1968 Created National Flood Insurance Program and made flood insurance available to owners of improved real estate in participating communities for the first time. Flood Disaster Protection Act of 1973 Created regulated lender responsibilities and made purchase of flood insurance mandatory for property in Special Flood Hazard Areas National Flood Ins Reform Act of 1994 Substantially changes, such as escrow for flood premiums, civil money penalties added, mandatory force placement, etc. Biggert Waters Flood Ins Reform Act of 2012 Increased coverage for multi family structures, increased premiums and NFIP changes, and significantly increased penalties for noncompliance Homeowner Flood Ins Affordability Act of 2014 Rolled back some rate hikes, mandatory escrow on consumer loans and implemented optional low value detached buildings on residential property 3 2012 & 2014 Amendments Biggert Waters Act of 2012 (BWA) Mandated acceptance of private flood insurance Increased NFIP coverage available for multi family residential structures Mandated escrow for flood insurance premiums for consumer purpose loans secured by a residence Clarified flood insurance force placement to allow charging borrower for full period of forceplacement premiums Implemented significant changes to civil money penalties Maximum penalty per violation increased from $385 to $2000 Annual cap removed Homeowner Flood Insurance Affordability Act of 2014 (HFIAA) Delayed Biggert Waters Act mandatory flood insurance escrow requirements until 1/1/16 Implemented the optional low value detached structure provision Rolled back some of the previous premium increases 4

Changes effective October 2017 5 SUMMARY: Lender Responsibilities 1. Determine if structure in high risk zone (SFHA) Flood Zones beginning with an A or a V Lender is responsible for accurate determination If using vendor, they must guarantee their determination 2. Document determination on standard form (SFHDF) 3. If in SFHA, notify borrower flood insurance is required 4. If in SFHA, require adequate flood insurance 5. Require escrow of flood insurance premiums if other items (e.g., taxes, hazard insurance, etc.) are escrowed 6. During term of loan, ensure sufficient amount of flood insurance continuous coverage is maintained 7. Force place flood insurance, if appropriate 6

Designated Loan All loans secured by a building or mobile home, including increases, extensions, refinances, and renewals located or to be located in a special flood hazard area (SFHA) where federal flood insurance is available Applies to consumer or commercial mortgages Includes table funded Triggered by collateral, not the purpose of loan Includes improved property even if taken in an abundance of caution Includes home equity and secondary mortgage loans 7 FDPA Small Loan Exemption The 1994 Reform Act provides an exemption from the mandatory purchase requirements for any loan made with an original outstanding principal balance of $5,000 or less, and with a repayment term of 1 year or less. BOTH criteria must be met in order for this exemption to apply. There is no exemption for home equity or second mortgage loans unless they meet these exceptions. 8

Detached Nonresidential Structure Exemption HFIAA: Effective March 2014 (Clarification July 2015) Exemption applies only to a completely detached structure that is part of a residential property and is not currently used or intended to be used as a residence. Lenders or servicers are not forced to exclude detached structures, but are given the choice. Applies to both consumer and business purpose loans secured by a primarily residential property. No requirement to monitor for changes in residential use in between MIRE events. 9 Flood Insurance Coverage Amount The minimum required coverage for flood insurance whether purchased by the borrower or force placed by the lender is the lesser of these 3 criteria: 1. Insurable value (value of the structure(s)) a. Appraised value less land value b. Insurable value of the structures {ACV versus RCV} c. Fair market value 2. Outstanding principal balance of the loan(s) 3. Maximum available through the NFIP 10

NFIP Maximum Coverage Limits Building Coverage Emergency Program Regular Program Single FamilyDwelling $35,000 $250,000 2 4 Family Dwelling $35,000 $250,000 Other Residential $100,000 $500,000 (5+ Family Dwelling) Non Residential $100,000 $500,000 Contents Coverage Residential $10,000 $100,000 Other Residential $10,000 $100,000 Non Residential $100,000 $500,000 11 NFIP s Two Program Phases Emergency Program Interim program for communities just entering the NFIP. Provides lower levels of flood insurance on eligible structures at subsidized rates. Communities will be admitted to Regular Program upon completion of specific flood plain management requirements. Regular Program Upon completion of detailed study and a flood insurance rate map (FIRM), full insurance coverage is provided for eligible structures. Communities must execute flood plain management responsibilities per FEMA s directives. 12

Residential Detached single family dwelling with <50% non residential occupancy 2 4 family non condo with <25% nonresidential occupancy Dwelling unit in a residential condo building Residential townhouse or rowhouse Manufactured / mobile home (permanently affixed) 13 Other Residential BW 12 changed multi family (5+ dwelling units) from Residential to Other Residential Includes multi family residential, dormitory, residential cooperative building, etc. Effective June 1, 2014 Building Coverage NFIP Max: $500,000 Contents Coverage NFIP Max: $100,000 14

Nonresidential Buildings Buildings used for small businesses Churches Schools Farm buildings Pool houses Clubhouses Recreation structures Hotels and motels with normal room rentals for < 6 months Mercantile structures Warehouses Industrial buildings Nursing homes Mixed use buildings with < 75% residential square footage 15 Insurable Value Appraisal based on cost value approach Reconstruction cost Reconstruction less depreciation Construction cost calculation Residential cost estimators Commercial cost estimators Google on Internet Industry leader obvious Replacement cost calculations Depreciated values Insurable value used in hazard policy (I hate this one!) Any other reasonable approach that can be supported 16

RCV versus ACV: Determined by Property Type What Will the Flood Insurance Policy Pay? Replacement Cost Value (RCV) Primary or principal residences Cost value of the entire property less the land value (which is not insurable) Actual Cash Value (ACV) Second and vacation homes Commercial structures Structure contents Cost value less land and physical depreciation RCV minus depreciation 17 When to Check Flood Status? M I R E MAKING INCREASING RENEWING EXTENDING 18

Flood Notice Requirements Upon MIRE for a designated loan (determination reflected high risk area!): Mail or deliver a written notice to borrower and servicer in all cases whether or not flood insurance is available Notice to borrower cannot be re used like an old determination (copy old, update w/new date) Must be provided a reasonable time prior to closing to allow borrower to obtain insurance Reasonable is generally considered to be 10 days You must provide notice each time, even if flood insurance is in place at origination of subsequent loan! Bank must retain a record of borrower s and servicer s receipt of the notices for life of the loan. Borrower should sign the notice acknowledging receipt. Must prove receipt by borrower! 19 Civil Money Penalties for Flood Insurance Violations A pattern or practice of violations of any of the following requirements triggers a mandatory civil money penalty: Purchase of flood insurance where available Escrow of flood insurance premiums Force placement of flood insurance Notice of special flood hazards and the availability of Federal disaster relief assistance Notice of servicer and any change of servicer Penalty of $2,000 per violation (annually indexed) No maximum amount of penalty per year as before 20

Record Retention Should retain sufficient records of compliance throughout the entire term of the loan Standard Flood Hazard Determination Forms must be retained in file for all loans regardless of flood hazard status Bank must retain a record of borrower s receipt of the notice of SFHA for the period of time the bank owns the loan for all loans with collateral in a high risk flood zone 21 Private Flood Insurance A private insurance policy may be an adequate substitute for NFIP insurance if it meets suggested guidelines set by FEMA: 1. Insurer must meet state department of insurance requirements 2. Surplus Lines insurer must be recognized by state department of insurance 3. 45 Day Cancellation/Non Renewal Notice 4. Must be as broad as the NFIP policy 5. Must contain similar NFIP mortgage interest clause 6. Same legal recourse as NFIP if claim is denied 22

What Prompted the Mandate to Accept Private Insurance? When BWA 2012 was enacted, the banking Agencies were required, among other things, to: Issue a rule addressing the escrow of premiums and fees for flood insurance. Provide clarification regarding the force place flood insurance requirements. Issue a rule to direct regulated lending institutions to accept private flood insurance as defined by the Act and to notify borrowers of the availability of private flood insurance. These requirements were addressed in 2013 when the banking Agencies jointly issued proposed regulations to implement the escrow, force placement and private flood insurance provisions. The private flood insurance provisions have not been finalized! 23 What Do the Proposed Private Flood Insurance Regs Require? The proposed rule would REQUIRE the acceptance of private flood insurance if it meets the definition of private flood insurance as outlined within the BWA, but would also PERMIT you to accept a private flood insurance policy that does not meet the regulatory definition. This does not give all private flood insurance policies acceptance without restrictions! There are regulatory standards with which private flood insurance policies must adhere. But the regulations state that the Lender and the regulated institution must perform the review for acceptance. 24

Proposed Discretionary Acceptance Flood insurance policies that do NOT meet the regulatory definition of private flood insurance must still meet specific standards: The flood insurance policy issued by a private insurer must be issued by an insurer that is licensed, admitted, or otherwise approved to engage in the business of insurance by the insurance regulator of the state in which the property to be insured is located or issued by a surplus lines insurer recognized or not disapproved by the insurance regulator of the state where the property to be insured is located. The policy issued by the private insurer would be required to cover both the mortgagor(s) and the mortgagee(s) as loss payees (i.e. the policy protects both the property owner and regulated lending institution). The policy issued by the private insurer must provide for cancellation following reasonable notice to the borrower only for reasons permitted by FEMA for an SFIP on the Flood Insurance Cancellation Request/Nullification Form, in any case of non payment or when cancellation is mandated pursuant to state law. The policy issued by a private insurer must either be at least as broad as the coverage provided under an SFIP or provide coverage that is similar to coverage provided under an SFIP including when considering deductibles, exclusions, and conditions. 25 Proposed Flood Insurance Regulations (October 2016) Definitions: Private Flood Insurance Policy (k) Private flood insurance means an insurance policy that: 1. Is issued by an insurance company licensed, admitted, or otherwise approved to engage in the business of insurance by the State or jurisdiction in which the property to be insured is located, or as a surplus lines insurer by the State or jurisdiction in which the property to be insured is located. 2. Provides coverage at least as broad as the coverage provided under a standard flood hazard insurance policy (SFIP), including when considering deductibles, exclusions, and other conditions. 3. Includes a requirement for insurer to provide written notice 45 days before cancellation or non renewal of flood insurance coverage to insured and regulated lending institution, or a servicer acting on the institution s behalf. 4. Includes information about the availability of flood insurance coverage under the NFIP. 5. Includes a mortgage interest clause similar to the clause contained in an SFIP. 6. Includes a provision requiring an insured to file suit no later than one year after the date of written denial for all or part of a claim under a policy. 7. Contains cancellation provisions that are as restrictive as the provisions contain in an SFIP. 26

Private Flood Insurance Policy Representations Insurer must verify the policy includes, or is accompanied by, a summary demonstrating how the policy meets the definition of private flood insurance by identifying the provisions of the policy that meet each regulatory criteria and confirms the insurer is regulated in accordance with that definition; Bank must verify, in writing, that the policy includes the provisions identified by the insurer in its summary and that these provisions satisfy the criteria included in the definition; and, The policy includes the following provision within the policy or as an endorsement to the policy, This policy meets the definition of private flood insurance contained in 42 U.S.C. 4012a(b)(7) and the corresponding regulation. 27 Lender Must Conduct Detailed Analysis of Private Policy To accept a private policy, a lender must essentially conduct a detailed analysis of a private flood insurance policy and compare it to a Standard Flood Insurance Policy (SFIP) issued under the NFIP. Who has the expertise? This will significantly impede the acceptance of private flood insurance. This requirement poses challenges for two reasons. Lenders are not insurance experts, and they lack the resources and expertise to conduct a full scale analysis and comparison of the two typically different policies. There is usually a delay between when coverage is obtained and when the full policy is provided to the lender. When combined with the extended timeframe lenders will require to review and compare the policies, the result could be extensive delays and increased borrower frustration. 28

Proposed Flood Insurance Regulations (October 2016) Definitions: Mutual Aid Society (h) Mutual aid society means an organization 1. Whose members share a common religious, charitable, educational, or fraternal bond; 2. That covers losses caused by damage to members property pursuant to an agreement, including damage caused by flooding, in accordance with this common bond; and 3. That has a demonstrated history of fulfilling the terms of agreements to cover losses to members property caused by flooding. 29 Proposal Allows Lender Discretion to Accept Flood Insurance Policy from a Mutual Aid Society The Proposed Rule states a lender may exercise discretion to accept a private policy from a mutual aid society if i. The supervising Agency has determined that such types of policies qualify as flood insurance for purposes of this Act; ii. iii. iv. The policy meets the amount of coverage for losses and term requirements specified in the rule; The policy covers both the mortgagor(s) and the mortgagee(s) as loss payees; and The regulated lending institution has determined that the policy provides sufficient protection of the loan secured by the property located in a special flood hazard area. In making this determination, the regulated lending institution must: Verify that the policy is consistent with general safety and soundness principles, such as whether deductibles are reasonable based on the borrower s financial condition; Consider the policy provider s ability to satisfy claims, such as whether the policy provider has a demonstrated record of covering losses; and Document its conclusions. 30

Private Flood Insurance Potential Points of Concern Private Market Flood coverage is generally not available for properties located in CBRA areas, nonparticipating FEMA communities, mobile homes, or condominium units. Other properties not eligible for coverage include: Properties that have experienced more than one flood loss within the past five years, Properties with unrepaired flood damage, Any property that has been designated by FEMA as a Severe Repetitive Loss property, and Properties that have been designated by a duly constituted State or local authority to be in violation of State or local floodplain management regulations (Section 1316). The Private Market Flood insurance policy includes the same coverage as the NFIP policy. Underwriters generally agree that in no event would a loss be denied under the Private Market Flood policy that would have been settled under the FEMA National Flood Insurance program Standard Flood Insurance policy Dwelling form. In fact, the two programs even utilize the same claims adjusters. 31 Advertised as Possible Advantages of Private Flood Insurance Who Knows if Will Materialize?? Limits of coverage higher than those provided by the NFIP. Replacement cost loss settlement on all building losses. Replacement cost loss settlement on personal property. Enhanced coverage in basements. Ordinance and law coverage. Broader other structures coverage. Coverage for other structures, besides just a detached garage. Additional living expense on a policy covering homes. Business income and extra expense coverage might be available on commercial policies. Fewer and/or more favorable deductibles. The property not covered list may be shorter than NFIP. Elevation certificate may or may not be required be required. No HIFAA surcharge of $25 or $250. Possibly lower rates. http://morrisandreynolds.com/13806 2/ 32

Advertised as Possible Disadvantages of Private Flood Insurance Who Knows if Will Materialize?? Coverage might not be as broad as the National Flood Insurance Program (NFIP) supported policies offer. There is no guaranty of renewal as exists with a NFIP policy. With a NFIP policy the insurer must renew coverage as long as the premium is paid. The insurer may be weakly capitalized or new to writing such coverage. The idea of private flood insurance is very new and untested. Lenders may be reluctant to accept the policy, or may totally decline to accept it. The policy likely can be cancelled mid term or non renewed by the insurer for a variety of reasons as allowed via state statutes. That s not the case with an NFIP supported policy You can possibly lose a subsidized rate and/or grandfathering if they leave the NFIP for a private insurer. If it s a surplus lines insurer that s offering private coverage then there is no state guaranty fund to protect that insurer. Rates could increase drastically, especially with a surplus lines insurer. The insurer might leave the market and non renew all policies. The policy could contain unique exclusions and conditions. Policy language, as these policies are new, not standardized and untested may be untested in court cases. There is no ability to assign policy to new purchaser. http://morrisandreynolds.com/13806 2/ 33 Additional Considerations Before Switching to Private Siding with the Private market for Flood Insurance would be an easy decision for homeowners if it weren t for the significant risk involved in ditching the NFIP. Consumers must evaluate all the facts, with specific focus on policy details, before changing flood Insurance carriers. Many times, the coverage offered to a homeowner by a private flood insurer is not as broad as their current NFIP policy. In addition, there is no guarantee that a renewal will be offered by private market flood insurance providers. The prospect of being dropped mid term or non renewed by a flood insurance company prior to hurricane season is a very scary and very viable possibility when dealing with the private market. The worst part about not having a renewal guaranteed is that there is a 30 day wait to get back into the NFIP and many homeowners would lose the grandfathered or discounted rate that they previously had with the NFIP before opting out. For this reason alone, many banks and property owners take a very cautious approach before leaving the safety net provided by the NFIP for the short term benefit of cheaper premiums through a private flood insurance company. 34

Patti Joyner Blenden, CRCM Patti.Blenden@finsolinc.com www.finsolinc.com