Flood Insurance: Mysteries of the 30 Day Rule
When Congress enacted the National Flood Insurance Reform Act of 1994, it meant business. One of Congress' goals was to ensure that property needing flood insurance was in fact insured. Without flood insurance, the only compensation available to property owners would be disaster assistance.
Another Congressional goal was to reduce the adverse impact of purchasing flood insurance only when a flood appeared imminent. These "scoff-law" property owners were able to fully benefit from insurance purchased in the nick of time while paying only minimal premiums. To prevent this practice, Congress imposed a 30 day delay in the effective date of flood insurance on property that should have been insured but was not.
As public policy, the 30 day rule makes a great deal of sense. However, like many such provisions, it also engendered some public policy problems. The Federal Emergency Management Agency (FEMA) has issued interpretations designed to minimize the problems in the 30 day rule while carrying out the Congressional intent.
Increasing Coverage for Second Loans
Sometimes compliance seems to create the problem. If a customer has flood insurance connected with the first mortgage, and takes out a second mortgage or a home equity line, the initial policy coverage may be insufficient for the two loans combined.
There may be several reasons that the insurance coverage is inadequate. The insurance may have been purchased before the 1994 act raised the coverage limits. The property may have appreciated. The borrower may have opted to purchase the minimum required policy.
The coverage becomes a problem because the second mortgage or home equity loan may not be the "initial purchase" of flood insurance. If not the initial purchase, the effective date must be delayed for 30 days leaving the lender and the borrower exposed to loss. FEMA has concluded that this result is contrary to the Congressional purpose of ensuring that those who should have flood insurance obtain it and maintain it. FEMA therefore interprets the "initial purchase" to include the purchase of an additional amount in connection with a particular loan closing if that amount is required for compliance.
Increased Coverage Resulting from Map Revisions
The initial purchase limitation may affect customers who have less insurance than is required after the map revision. Strict construction of the requirement would also prevent customers who purchased flood insurance voluntarily - before the property was identified as a flood hazard zone. Because they already have insurance, their purchase would not be "initial."
FEMA agrees that imposing a 30 day waiting period on these customers would be the wrong result. Consequently, FEMA interprets "initial purchase" to include situations that are triggered by a map revision. Essentially this introduces new information to the transaction and initiates the requirement to purchase additional insurance.
The portfolio review to assess compliance with the new requirements may reveal property that should be insured but is not. The search may reveal loans located in flood hazard zones that were not properly identified when the loan was made. The search may reveal situations where required insurance has lapsed. (Remember: when conducting a portfolio review, unless the search reveals that flood insurance is required, the cost of each loan file search cannot be passed on to the customer.)
FEMA has decided to exempt these insurance purchases from the 30-day rule. The coverage would be effective when the application for insurance is complete and the premium is paid.
This last exemption may enable some scoff-laws to obtain insurance without a waiting period. However, it is still consistent with public policy because the request for coverage is triggered by a regulatory event - the portfolio review - rather than by an imminent flood. The new regulations will ensure that these customers remain insured for the life of their loan.
- Check on the status of the portfolio review. If your bank conducted a portfolio search, review the findings and determine whether any of these exceptions apply.
- Provide your loan officers with information about these exceptions. Discuss or explain the public policy purpose to help them apply the exceptions.
- Review loans secured by second liens such as second mortgages, home improvement loans, and home equity loans for compliance with flood insurance and for eligibility for the 30-day rule exemption.
Copyright © 1996 Compliance Action. Originally appeared in Compliance Action, Vol. 1, No. 6, 4/96
First published on 04/01/1996