Final Rule on Private Flood Insurance

Issue/Inquiry

What is the criteria for the acceptance of private flood insurance under the recently issued final rule? Is the Bank required to accept coverage provided by a mutual aid society, or can it require a standard policy? Would it be necessary to follow separate procedures in satisfying the criteria for flood insurance provided by a mutual aid society?

Response Summary

The final rule issued by the Federal regulatory agencies requires lending institutions to accept private flood insurance when certain criteria are met. Where such criteria are not fulfilled and acceptance is not mandatory, an institution has the discretion to accept private flood insurance or a flood plan offered by a mutual aid society. The requirements for accepting a flood plan provided by a mutual aid society include criteria demonstrating the existence of the organization as a mutual aid society and acceptance of the plan by the institution’s primary Federal regulator. The FDIC has indicated that its acceptance of such plans will be limited and rare.

Response Detail

Final Rule on Loans in Areas Having Special Flood Hazards – Private Flood Insurance

The Biggert-Waters Act Flood Insurance Reform Act of 2012 (“Biggert-Waters Act”) amended Federal flood insurance legislation to require the FDIC, the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System, the National Credit Union Administration, and the Farm Credit Administration (the “Agencies”) to issue a final rule directing insured depository institutions to accept private flood insurance as defined by the Biggert-Waters Act.

On February 13, 2019, the Agencies approved the issuance of a joint final rule to amend their respective regulations regarding loans in special flood hazard areas, as follows:

• Mandatory Acceptance of Private Flood Insurance: Institutions must accept private flood insurance that meets both the statutory definition of private flood insurance and the mandatory purchase requirement. The final rule includes a streamlined compliance aid provision that assists institutions with evaluating policies by relying on written assurances from the insurer that a policy satisfies the criteria set out in the Biggert-Waters Act.
• Discretionary Acceptance of Private Flood Insurance: The final rule provides that institutions may accept private flood insurance policies that do not meet the Biggert-Waters Act’s criteria for mandatory acceptance, provided that certain conditions are met, including that the policy provides sufficient protection of the loan, consistent with general safety and soundness principles.
• Coverage by Mutual Aid Societies: The final rule allows institutions to accept certain flood plans provided by mutual aid societies as long as certain conditions are met.

The final rule becomes effective on July 1, 2019.  FDIC, FIL-8-2019.

These rules mean that, if the prescribed criteria are met, a financial institution must accept private flood insurance. Where the criteria are not met, the institution has the discretion to accept or reject the private flood insurance. Similarly, it has the discretion to accept or reject flood coverage under a mutual aid society plan.

If the institution exercises its discretion to accept private flood insurance or a flood plan provided by a mutual aid society, the coverage must conform to the regulatory criteria. The institution is not required to accept the private flood insurance or flood plan. In particular, the final rule does not require an institution to accept a flood plan provided by a mutual aid society.

Where acceptance of a private flood policy is not mandatory, an institution may require a Standard Flood Insurance Policy (“SFIP”) issued under the National Flood Insurance Program (“NFIP”).

Mandatory Acceptance of Private Insurance

The Biggert-Waters Act requires institutions to accept private flood insurance that meets both the statutory definition of private flood insurance and the existing mandatory purchase requirement.

The statutory definition of “private flood insurance” as an insurance policy indicates that it is:

• Issued by an insurance company that is licensed or approved to engage in the business of insurance by the insurance regulator of the state in which it is located, and is recognized (or not disapproved) as a surplus lines insurer
• Provides flood insurance coverage which is at least as broad as the coverage provided by a SFIP under the NFIP, including when considering deductibles, exclusions, and conditions offered by the insurer
• Includes a requirement for the insurer to give 45 days’ written notice of cancellation or non-renewal of flood insurance coverage to the insured and the lender
• Includes information about the availability of flood insurance under the NFIP
• Includes a mortgage interest clause similar to the clause contained in a standard flood insurance policy under the NFIP
• Includes a provision requiring an insured to file suit no later than one year after the date of a written denial of all or part of a claim under the policy
• Contains cancellation provisions that are as restrictive as the provisions contained in a standard flood insurance policy under the NFIP

Coverage by a private insurance policy must, at a minimum, satisfy the following requirements in order to be considered as broad as coverage provided by an SFIP issued under the NFIP:

• Defines the term “flood” to include the events defined as a “flood” in an SFIP
• Covers both the mortgagor and mortgagee as loss payees
• Contains the coverage and provisions specified in an SFIP, including those relating to building property coverage, personal property coverage (if purchased by the insured mortgagor), other coverages, and the increased cost of compliance
• Contains deductibles no higher than the specified NFIP maximums, and includes similar non-applicability provisions as under an SFIP, for any total policy coverage amount up to the maximum available under the NFIP
• Provides coverage for direct physical loss caused by a flood and may exclude other causes of loss identified in an SFIP (any additional or different exclusions other than those in an SFIP may only pertain to coverage that is in addition to the amount and type of coverage that could be provided by an SFIP)
• Does not contain conditions that narrow the coverage that would be provided in an SFIP. 84 Federal Register, 4953, 4958

Compliance Aid

While it is not required, an insurer may provide the following statement in the policy:

“This policy meets the definition of private flood insurance contained in 42 U.S.C. 4012a(b)(7) and the corresponding regulation.”

If a policy includes this statement, the lending institution may rely on the statement and would not need to review the policy to determine whether it meets the definition of “private flood insurance”. However, the institution could choose to not rely on this statement and instead make its own determination.

This provision does not relieve a lending institution of the requirement to accept a policy that both meets the definition of “private flood insurance” and fulfills the flood insurance coverage requirement, even if the policy does not include the statement. This means that the provision does not permit lending institutions to reject policies solely because they are not accompanied by the statement. 84 Federal Register 4953, 4959.

Discretionary Acceptance of Private Flood Insurance

The Agencies construed the term “flood insurance” in the flood insurance purchase requirement in section 102(b) of the Flood Disaster Protection Act to continue permitting regulated lending institutions to exercise their discretion when accepting certain policies issued by private insurers that do not contain all of the criteria in the statutory definition of “private flood insurance”.

The final rule provides that institutions may accept a private flood insurance policy that does not meet the Biggert-Waters Act’s criteria for mandatory acceptance, if the policy:

• Provides coverage in the amount required by the flood insurance purchase requirement
• Is issued by an authorized insurer that is licensed, admitted, or not disapproved by a state insurance regulator
• Covers both the mortgagor and mortgagee as loss payees, except in the case of a policy that is provided, and for which the premium is paid by a condominium association, cooperative, homeowners association, or other applicable group
• Provides sufficient protection of the designated loan, consistent with general safety and soundness principles

When using its discretion to accept a non-conforming private insurance policy, the financial institution must document its conclusion regarding sufficiency of the protection of the loan in writing. 84 Federal Register 4953, 4960-62.

Coverage by Mutual Aid Societies

The final rule allows institutions to accept certain flood plans provided by mutual aid societies when certain conditions are met, even though such coverage does not satisfy the definition of “private flood insurance”.

A “mutual aid society” is an organization:

• Whose members share a common religious, charitable, educational, or fraternal bond
• That covers losses caused by damage to members’ property pursuant to an agreement, including damage caused by flooding, in accordance with this common bond
• That has a demonstrated history of fulfilling the terms of agreements to cover losses to members’ property caused by flooding

An institution, in satisfaction of the mandatory flood insurance requirement, has the discretion to accept flood plans issued by mutual aid societies if the following conditions are met:

• The institution’s primary Federal regulator has determined that such plans qualify as flood insurance
• The plan provides coverage equal to the coverage provided by an SFIP
• The plan covers both the lender and borrower as loss payees
• The plan provides sufficient protection of the designated loan consistent with general safety and soundness principles

When accepting a flood insurance plan issued by a mutual aid society, the lending institution must document its conclusion regarding sufficiency of the protection of the loan in writing.

With respect to the approval of an institution’s primary Federal regulator, the commentary to the final rule referred to the criteria that the OCC and FCA would follow in evaluating plans issued by mutual aid societies. It also stated that, based on current criteria, approval by the Federal Reserve Board, FDIC, or NCUA will be rare and limited.

In determining whether or not a flood plan provided will be accepted, the financial institution must document its fulfillment of the unique criteria pertaining to such plans. In the first place, it will have to document that the provider of the plan is in fact a mutual aid society. For example, the institution will have to obtain facts and documentation as to the common bond of the members of the organization that there is an agreement between the members to cover damage by flood and a history of covering such damage.

In response to objections concerning the difficulty of obtaining such information, the Agencies stated that it was necessary and feasible to do so. 84 Federal Register 4953, 4963-65.

This entry was posted on Monday, July 22nd, 2019 at 6:00 am.