Flood Insurance and Non-Participating Communities

Issue/Inquiry

The Bank received a flood determination indicating that the property is in a flood zone, but that the community does not participate in the National Flood Insurance Program (“NFIP”). Can the Bank make the loan without requiring flood insurance?

Response Summary

The Bank can choose to make a mortgage loan without requiring flood insurance, provided that it is not a federally-guaranteed or insured loan. It should consider the additional risks involved in making such a loan. Conversely, even though flood insurance is not required by the Flood Rules, the Bank can still, as a matter of contract, require the property to be insured under a policy issued by a private insurer.

Response Detail

Under the Flood Rules, a lender shall not make, increase, extend, or renew any designated loan unless the building or mobile home and any personal property securing the loan is covered by flood insurance for the term of the loan. A “designated loan” is a loan secured by a building or mobile home that is located in a Special Flood Hazard Area (“SFHA”) in which flood insurance is available under the National Flood Insurance Program (“NFIP”). 12 CFR 339.2(h),3(a).

This means that the Flood Rules apply, but a lender does not have to require borrowers to obtain flood insurance even if the property is located in a SFHA, as long as the community in which the property is located does not participate in the NFIP.

The lender must still determine whether the building or mobile home is located in a SFHA, using the Standard Flood Hazard Determination Form. If the building or mobile home is determined to be in a SFHA, the lender must notify the borrower and indicate that Federal Flood Insurance is not available. However, the lender can generally make a mortgage loan without requiring flood insurance if it chooses to do so.

An exception concerns a federal government-guaranteed or insured loan, such as a Small Business Administration, Veterans Administration, or Federal Housing Administration loan. A lender will not be allowed to make such a loan secured by a building or mobile home located in a SFHA in a community that does not participate in the NFIP.

Additionally, the lender must exercise sound risk management practices to ensure that it does not make a loan secured by a building or mobile home loan located in a SFHA where no flood insurance is available under the NFIP if to do so would be an unacceptable risk.  Interagency Flood Insurance Questions & Answers, Q.1.

In this case, the Bank has already had a flood determination performed, indicating that the property is located in a SFHA, but that Federal Flood Insurance is not available, since the community does not participate in the NFIP. It must now provide the appropriate notice to the borrower. The Bank can choose to make the loan without flood insurance, provided that it is not a federal government-guaranteed or insured loan, but its loan approval and underwriting should demonstrate that it has considered the additional risk of doing so. Conversely, it may require the borrower, as a matter of contract, to obtain flood insurance from a private insurer.

This entry was posted on Monday, November 6th, 2017 at 9:34 am.