Keeping Up with the Rising Tide- Flood Insurance Changes are Coming- A Three Part Series

Part Three:  Forced Placed Insurance       

Over the past several years, the contours of the flood insurance rules have experienced significant changes.   Both the Biggert Waters Act and the Homeowners Flood Insurance Affordability Act (“HFIAA”) have introduced long sought changes to the way flood insurance will be administrated.   As always, with changes to regulations, there are many questions about how the changes will affect the financial institutions that make loans with collateral in a flood zone.  This series will explain the three most recent changes.    

Force Placing of Flood Insurance    

One of the areas of the flood insurance rules that often causes confusion are the rules for force-placing flood insurance.  Briefly, the rule is that in the event that flood insurance is required for a loan, and the insurance policy either lapses or is insufficient, the lending institution is supposed to notify the customer of the problem and give 45 days for a response.  After 45 days pass, if the borrower has not corrected the problem, then the lending institution must obtain flood insurance and the charge the customer.    This process is commonly called force-placing flood insurance.  

While this rule may seem straightforward, there have been several questions that have been left open in this process.  For example, when is a flood insurance policy considered lapsed?  When the lending institution obtains flood insurance what is the date that the new policy starts and how much can the customer be charged?  What if the customer get his/her own flood policy after a policy has been forced placed?   The new rules are designed to answer most of these questions.  

When Does a Policy Lapse

Often, the first issue that must be addressed with the area of force placed flood insurance is the question of when the policy in place actually lapses.  Part of the confusion is caused by the fact that flood insurance policies generally allow a 30 day grace period from the expiration date for the customer to reinstate the policy.   So is the lapse date the expiration date or 30 days later?   The new rules address this question directly.  For purposes of the rule, the lapse date is the date that the policy expires or is cancelled by the insurance company.    This is important for the lending institution because they may charge the customer for insurance as of the lapse date.  

Notification Requirements

Probably one of the strangest areas of the flood insurance rules is the notification requirement.  The basic rule is that once a lender is aware that a flood insurance policy has expired or is insufficient[1], they must notify the borrower and give them 45 days to purchase insurance in the proper amount.   The question is often asked, if flood insurance policies give a 30 day grace period after expiration and lender has to wait 45 days to obtain new insurance, isn’t there a 15 day gap?  Yes, there is a gap[2].  The new rules do not close this gap, but they do allow the lender some relief.  When the lender obtains a new policy on the 45th day from expiration of the policy or notice to the borrower, the premiums can be charged back to the date of the notice.   In other words even if the policy is purchased on the 45 day after a notice, the premium can be charged back to the date of the notice.   

The question of whether or not a lender can give notice to the customer earlier so that the 45 day notice and the end of the grace period of a policy coincide is addressed.  The answer is clearly NO!  You can notify the customer earlier, but that will not change the 45 day waiting period before a new policy is obtained.  The statutory requirement is that the force placed policy will be purchased on the 46^th day after notice has been given.  [3]

Actual Force Placed Date

One area that the new rules address is the actual date that a lender can force place insurance.  Although the 45 day waiting period from the date of expiration still exists, this does not mean that a lender has to wait to force place the insurance.  Under the new rules, the lender may force place insurance on the day the insurance lapses[4].  In the event that the borrower does not obtain their own insurance, the lender can charge the premiums starting the day the policy lapsed. 

There is one caveat here though.  If the customer buys a policy during the 45 day period from the time of the notice of the lapsed policy, there may be overlapping policies.   Any premiums for the forced placed insurance that overlap with the customers’ policy must be refunded.  

What is Sufficient Evidence of a Policy?

Another area addressed in the rules is the issue of sufficient evidence of an insurance policy.  Over the past few years, financial institutions have been cited for inadequate evidence of insurance policies when they presented binder pages or other documents as evidence of insurance.   The new rules address this question directly: 

“Sufficient documentation consists of an insurance policy declarations page that includes the existing flood insurance policy number and the identity of and contact information for the insurance company or its agent. This information is all that is required under Biggert-Waters for an insurance policy declarations page to be considered sufficient evidence of a borrower’s flood insurance coverage, and the Agencies decline to require additional information”

Putting it all together

The most recent publication from the FFIEC on flood insurance rules covers three main areas:

1.       Exemptions from flood insurance

2.       The escrow rule

3.       Forced placed insurance  

A quick review of each of the new rules:  

Exemptions from flood insurance:  The rules for structures that are detached from a residence will change.   If the property that is pledged as collateral is in a flood zone, then the flood insurance rules apply.   Insurance is required only for each structure that serves as a residence on the property at the time the loan is made.  This rule applies regardless of the purpose of the loan.  This rule does NOT apply to structures that are used for commercial, agricultural or other business purposes.  In summary, there is no longer a need to get insurance on that random pole barn or chicken coop. 

Escrow rules:  If your institution has less than $1 billion in assets, then it is unlikely that the escrow rule will apply; unless you regularly insist on escrow for insurance and taxes, or state law requires escrow.  The easiest way to tell if this rule applies to your institution is to determine whether or not you have well established policies and procedures for instituting escrow.  In other words, if escrow is something that your bank has been doing for some time, it is likely that the rule will apply.   If the rule does apply, on January 1, 2016, your institution will need to offer the escrow option to all existing loan accounts with flood insurance.  In addition, for all loans made, increased, renewed or extended after January 1, 2016, payments for flood insurance will be included in escrow. 

Forced placed insurance:   Under the new rules, a policy is lapsed on the date it is cancelled.  That is, the grace period of a flood insurance policy does not extend the lapse date for purposes of force-placing insurance.  Even though the 45 day rule still applies, bank may force place insurance on the day a policy lapses or the bank finds that the amount of insurance is deficient.   Premiums that are paid for forced placed insurance can be charged starting at the day of the lapse.  However, any premiums that are charged for overlapping insurance must be refunded to the consumer.  

 

We believe that these rules will ultimately make getting flood insurance right easier. 

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[1] This includes a situation where a lender recently discovered that a property was in a flood zone, or where a flood map changed

[2] But see below- actual forced date

[3] See Interagency questions and answer of flood insurance 64 for a general discussion

[4] Or the day the lender finds out that insurance is insufficient