Forced Placed Flood Insurance and Non-Participating Community

Issue/Inquiry

The Bank made loans secured by properties located in special flood hazard areas in two communities which have been suspended by FEMA from participation in the NFIP, meaning that NFIP flood insurance is no longer available for properties located in those communities.

The suspension from participation in the NFIP was apparently due to clerical errors, which the communities are endeavoring to correct. In the meantime, the Bank has the following questions:

1. Is there an obligation to force place the borrower if their town is no longer a participating community?
2. If force placement is an option, can the Bank charge the borrower for the cost of the force placement?
3. If the communities re-join the NFIP, what will the Bank have to do to obtain flood insurance?

Response Summary

The obligation to force place flood insurance only pertains to loans secured by properties located in special flood hazard areas in communities participating in the NFIP. Since the communities in which the properties in question are located do not participate in the NFIP, the Bank has no obligation to force place flood insurance. Whether the Bank should nevertheless require flood insurance coverage for such properties is a safety and soundness question and a matter to be agreed upon between the Bank and the borrowers. Whether the Bank can or should force place flood insurance coverage is also a matter between it and the borrowers, and will likewise be determined by the contract between the parties, with respect to both the force placement and the charge to the borrower. When the communities re-join the NFIP, the Bank will be required to determine whether the properties have appropriate flood insurance coverage and to force place coverage if they do not. Whether private insurance is an adequate substitute for NFIP insurance will depend on whether the private insurance satisfies the criteria set forth by FEMA. In any case, the borrower should be advised to apply for NFIP insurance, since it will undoubtedly be less expensive than any private insurance currently in place.

Response Detail

Under the Flood Rules (i.e., the Flood Disaster Protection Act of 1973 and the National Flood Insurance Act of 1968, as amended by the Biggert-Waters Flood Insurance Reform Act of 2012), flood insurance is required when the following factors are present:

• The bank makes, increases, extends, or renews any loan secured by improved real estate or a mobile home that is affixed to a permanent foundation
• The property securing the loan is located in a special flood hazard area (“SFHA”) identified by FEMA
• The community in which the property is located participates in the National Flood Insurance Program (“NFIP”). FDIC Compliance Examination Manual, V-6.2.

A loan secured by a building or mobile home that is located or is to be located in an SFHA in a community that participates in the NFIP is a “designated loan.” 12 CFR §339.2(d).

A financial institution is responsible for ensuring that, where flood insurance was required at origination, the borrower renews the flood insurance policy and continues to renew it for as long as flood insurance is required for the collateral property. The financial institution must purchase or “force place” insurance for the borrower if it determines at any time during the term of a designated loan that coverage is lacking.  12 CFR §339.7.

In the present situation, the loans are no longer designated loans, since flood insurance under the NFIP is not available. Consequently, there is no obligation under the Flood Rules to force place flood insurance coverage, since this requirement only applies to designated loans, that is, when flood insurance under the NFIP is available for improved property securing the loan. Interagency Flood Insurance Questions & Answers, Q. 57.

The Bank is still required to fulfill the flood determination and flood notice requirements of the Flood Rules, but it is not required to obtain proof of flood insurance coverage for the properties in question. The flood notice will indicate that the property is in an SFHA but that the community in which the property is located does not participate in the NFIP. Interagency Flood Insurance Questions & Answers, Q.1.

Whether the Bank should nevertheless require flood insurance coverage for such properties is a safety and soundness question and a matter to be agreed upon between the Bank and the borrowers. Whether the Bank can or should force place flood insurance coverage is also a matter between it and the borrowers, and will likewise be determined by the contract between the parties, with respect to both the force placement and the charge to the borrower.

If the communities in which the properties are located again begin participating in the NFIP, the loans will become designated loans. The question then will be whether the properties are insured against flood hazard.

As per the earlier citation, if a financial institution determines at any time during the term of a designated loan that the building or mobile home and any personal  property securing the loan are not covered by flood insurance, or are covered by flood insurance in an amount less that the amount required under the Flood Rules, then the financial institution shall notify the borrower that the borrower should obtain flood insurance, at the borrower’s expense, in an amount at least equal to the amount required under the Flood Rules for the remaining term of the loan. If the borrower fails to obtain flood insurance within 45 days after notification, the institution shall purchase insurance on the borrower’s behalf and may charge the borrower for the cost of the insurance. 12 CFR §339.7.

If the properties are not insured against flood hazard when the loans become designated loans, the Bank will have to follow the described forced placement procedures.

If there is flood insurance coverage for the properties through private insurance, the Bank must determine whether the private policy satisfies the criteria set forth by FEMA in its Mandatory Purchase of Flood Insurance Guidelines. If it does, it may be an adequate substitute for NFIP insurance. Interagency Flood Insurance Questions & Answers, Q. 63. Nevertheless, the borrower should be advised to apply for flood insurance under the NFIP, since such coverage will undoubtedly be less expensive than the private insurance currently in place.

This entry was posted on Monday, August 31st, 2015 at 3:00 pm.