Flood Insurance- What you don’t Know may Cause a UDAAP Violation- Part Two

In 2011, the newly published questions and answers pertaining to flood insurance brought significant, but unheralded change to the management of flood insurance at banks and financial institutions.   In the last blog we discussed the changes to the manner in which insurable value is calculated for purposes of commercial buildings and the possibility of over-insuring. 

Another area of change addressing in the questions and answers is one that has vexed compliance officers for some time-the 45 day rule.  The three questions that are addressed are:

                                                               i.      When does the 45 day notice period begin?

                                                             ii.      Can a borrower be charged for the cost of insurance purchased during the 45 day notice period?

                                                            iii.      How soon after the 45 days have expired should the bank purchase and force place insure? 

The answers to the first two questions have not been adopted as final.  However, both proposed questions and answers provide significant guidance.  The answer to the third question should serve as something of a warning to the unit at your bank that handles the flood insurance portfolio.  

Force Placing Should be Immediate

Force Placed Insurance must be in effect in a very short time after the 45 day period has expired. 

“The Regulation provides that the lender or its servicer shall purchase insurance on the borrower’s behalf if the borrower fails to obtain flood insurance within 45 days after notification. However, where there is a brief delay in force placing required insurance, the Agencies will expect the lender to provide a reasonable explanation for the delay,”

There is no further discussion of a “brief “delay.  However, the discussion in the question details the rationale that the bank has had knowledge of the expiration of the policy or under insured condition for some time and should anticipate that the borrower will need the policy.  It is clear that the examiners will look to the Bank to provide insurance IMMEDIATELY at the end of the 45 day notice period.  Failure to do so will need an explanation.   

When does the 45 Day Notice Period Begin?

The questions and answers here discuss the idea that the banks may accelerate the date for notice of force placement using the guidance form the NFIP flood insurance manual which discusses a notice being sent 45 days before the expiration of a policy.  However, the comments note that this direction is for the insurance companies and not the financial institutions.  Your bank must wait until it has actual knowledge that the policy has expired or the insurance amount is inadequate. [1]

Can a Borrower be charged for forced Placed Insurance in the 45 day Period?

Probably one of the most interesting questions in the whole force-placed insurance area is about the time period between the expiration of a policy and the force-placed new policy.  Is there a gap that is being created by the regulation?  The answer to the question indicates that a bank can in fact; charge the customer for force-placing insurance retroactive to the date that the coverage actually ends.  In most cases, this would be for a 15 day period insurance coverage ends 30 days after the policy expires.   The caveat here is that the bank must have written into its original loan agreement the right to charge the customer for insurance. 

 UDAAP 

The comments in proposed question 62 offer some further information that is critical. 

“the Agencies also encourage institutions to explain their force-placement policies to borrowers (including their policy on charging for force-placement coverage for the 45-day period and the timing of that charge) and encourage lenders and servicers to escrow flood insurance” 

While the language here may seem casual and merely suggestive, the wise compliance officer will see this information as the potential for a UDAPP violation if not followed.   If your bank intends to charge borrowers for forced placed flood policies for the time period retroactive to the date the coverage expires, it is best to clearly document the force-placed policies at the time the loan is made and again with the 45 day notice. 

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[1] Notice is also required at the moment that the Bank becomes aware of a change in the flood map that requires insurance for a property or collateral that was previously not in a flood zone.