Bank as Loss Payee on Condominium Flood Policy

Issue/Inquiry

When one or more units of a residential condominium is securing a loan from a bank, should the bank be listed as the loss payee on the flood insurance policy covering such condominium?

Response Summary

A bank cannot be listed on an RCBAP as a “mortgagee” or “loss payee” when the loan is to the unit owner and not the condominium association. In order to protect its interest, a financial institution may seek to be listed on the policy as an “other interest”; however, in the event that this cannot be done, a bank should, as a matter of best practice, have the borrower assign the borrower’s interest in the RCBAP to the bank.

Response Detail

The condominium master policy is called a Residential Condominium Building Association Policy (“RCBAP”).  A lender must ensure that the condominium association has obtained an RCBAP or other flood insurance policy in an amount that is either 100 percent of the replacement value of the building or the number of units times $250,000, whichever is less. In the event that the condominium association has not obtained an RCBAP or if the coverage of the RCBAP is less than the required standard, the lender must require the unit owner to obtain a dwelling policy, which would cover the difference between the amount allocated to that unit by the condominium association’s policy and the coverage requirements of the Flood Rules. FDIC Compliance Examination Manual, V – 6.4.

The name insured under an RCBAP is the condominium association. NFIP Flood Insurance Manual, Condo 1.

While the Federal Emergency Management Agency (“FEMA”) Mandatory Flood Insurance Guidelines were rescinded with the passage of the Biggert-Waters Flood Insurance Reform Act of 2012, such guidelines still offer useful insight as to the nature of RCBAP coverage:

Although the statutory requirements apply with equal force to condominium unit owners and their lenders, the practice of the lending industry, as followed under the RCBAP, is to defer to the association to ensure compliance. While the association does not bear mortgage responsibility on the individual units, its interest springs from the obligation to maintain and repair the premises for the community benefit and unit owners as tenants in common. A key feature of the condominium insurance format is the separate ownership and mortgaging of individual units, yet the insuring of the building as a whole with a policy issued to the association only. It should be noted that lenders are still responsible to meet their compliance requirements under the law. A unit owner’s mortgage lender has no direct interest in an RCBAP and is not to be listed as an additional named insured on the policy declaration page. FEMA, Mandatory Flood Insurance Guidelines, Section D. Condos, Coops, Timeshares.

What this means is that the Bank cannot be added to the RCBAP as a “mortgagee” or “loss payee” since the loan is to the unit owner and not the condominium association, and it cannot be added to the policy as an “additional name insured” since it has no direct interest in the RCBAP.

Considering this aspect of RCBAPs, the Federal Reserve Bank of Philadelphia provided the following guidance in Compliance Corner (Fourth Quarter, 2005):

A unit owner’s mortgage lender has no direct interest in an RCBAP and is not an additional named insured. Because of this, lenders should take steps to protect their interest in the proceeds of a policy in the event of a claim. In the loan documents, lenders should require borrowers to fully assign all future claims under any insurance purchased or in which the borrower is named as an insured, such as an RCBAP. The lender should also notify the flood insurance carrier of the assignment. Otherwise, the carrier will send the proceeds of a claim to the borrower.

The Flood Rules do not prescribe a requirement for the interest of the lender to appear on a flood insurance policy, nor do the Interagency Flood Questions & Answers or the FDIC compliance examination procedures address whether the lender should appear on an RCBAP as the “loss payee” or in any other respect. Nevertheless, the Bank should be aware that the FDIC compliance examination procedures ask the following question:

If an improved real property or mobile home is located in a special flood hazard area and flood insurance is required, does the institution have the borrower obtain a policy, with the institution as loss payee, in the correct amount prior to closing? FDIC Compliance Manual, V – 6.10.

Given the apparent expectation by a federal regulator that the interest of a bank will appear on the policy as well as the need to protect security interest, a financial institution with a mortgage interest in the unit of a residential condominium should do the following:

• Seek to have itself added to the RCBAP of the condominium association as “other interest” or “additional interest”
• If the Bank is unable to have itself added to the policy in the above fashion, it should take the precautionary step of having the borrower assign all rights and interest in the RCBAP and notifying the issuer of the Bank’s interest;
• Document what it has done to protect its interest.

However, this course of action is considered “best practice” and is not in response to a regulatory requirement.

This entry was posted on Monday, March 11th, 2019 at 6:00 am.