Conflict Over Meaning of Abundance of Caution
by Lucy Griffin, Jim Bedsole and Dan Persfull, BOL Gurus Guru Bios
Question: My question deals with the definition of the term abundance of caution. I have recently read "to qualify under the abundance of caution definition, you would have to make the loan under the same terms and condition as if the borrower did not offer the real estate as collateral." However, in some FDIC material I have read the following: "abundance of caution, e.g., the institution takes a blanket lien on all or substantially as of the assets of the borrower, and the value of the real property is low relative to the aggregate value of all other collateral." These two seem to be in conflict. Can any of you help me get a handle on what exactly is meant by this term? If possible cite your source.
Answer by Lucy Griffin: Abundance of caution is a term developed and used by lenders. I'm not aware of any federal regulatory definition, but regulators sometimes produce an explanation based on specific questions posed to the agency. In general use, abundance of caution is used to mean that the additional security isn't required by underwriting guidelines, but the lender requires it, being abundantly cautious. This usually happens when the loan has high risk, or the customer is a first-time borrower.
The term comes into play in the compliance arena when flood insurance must be considered. Regulatory responses there have stated that the value of the property relative to the loan, or the role of the security in making the loan, is not relevant. What matters is taking the security interest which triggers the flood insurance rules.
Answer by Jim Bedsole: The only place, from a federal regulation standpoint, where I'm aware of the term being used is in the appraisal regulations (for FDIC banks, that's 12 CFR 323; there are corresponding regulations for the other regulators as well). In 323.3(a)(2), it states that a licensed or certified appraisal is not required when a lien on real property has been taken in an abundance of caution. However, it does not define that term. I believe that is going to have to be something your loan policy defines.
Answer by Dan Persfull: The questioner's quote is from the following exerpt from the document located at www.fdic.gov/news/news/financial/1999/FIL9994.pdf dealing with LTVs. In that context, taking property as an abundance of caution through a blanket lien in addition to other collateral does not qualify for the LTV exemption.
Transactions Excluded from Supervisory Guidelines
The Guidelines describe nine lending situations that are excluded from the supervisory LTV limits, reporting requirements, and aggregate capital limitations. The agencies have received numerous questions from bankers and examiners regarding two of these excluded transactions.
· Abundance of Caution. The Guidelines indicate that any loan for which a lien on or interest in real property is taken as additional collateral through an abundance of caution may be excluded from the supervisory LTV and capital limits. The Guidelines specifically state that abundance of caution exists when an institution takes a blanket lien on all or substantially all of the assets of the borrower, and the value of the real property is low relative to the aggregate value of all other collateral. Because real estate is typically the only form of collateral on a high LTV loan, the abundance of caution exclusion would not apply to these transactions.
As the previous Gurus noted, an abundance of caution security interest is generally taken to shore up a loan, or as a courtesy to the borrower. However, the abundance of caution security is not the deciding factor in the loan being made, nor does it give way to more favorable terms by taking the abundance of caution security interest.
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