Documenting Detached Structure Exemption

Should a loan file document if a detached structure is being exempted for flood purposes? Is it required that the file be documented? Or is it more of a best practice to prove that you are doing your due diligence? Any help would be appreciated!

Wouldn't you have the support from the appraisal, which would be in the file?

We have an internal checklist that is required for all loans with buildings in a flood zone. Part of it requires all buildings to be listed and if flood insurance isn't obtained, we list why.

The appraisal is in the file....however, isn't there something in the rule that states that the loan cannot benefit from the value of the detached structure to be exempt? For example, lets say the property has a house and large utility shed. To make the loan and have a conforming LTV, the Bank needs to include the value given to both the house and the shed. Since the Bank is needing the value of the shed, wouldn't the shed need insurance?

From a regulatory standpoint, no (assuming it meets the criteria for exclusion). From a safety and soundness perspective, it's probably a good idea to require insurance.

We have a form we have the customer sign saying that they acknowledge that we don't require it but flooding could destroy the structure and the bank is not responsible for their decision not to cover it. We use that form as our detached structure form that is scanned in with the flood certification.

I'm reviving an old thread, but I just love the BOL search function... especially for flood compliance!

I wanted to get your take on this - we have a customer who is purchasing a home on the coast. The residential property includes two buildings: the main house and what the appraiser calls a "carriage house" (we would call it a mother-in-law house). Prior to our customer buying the property, both buildings have been ripped down to the studs.

During the term of our loan the main house will be remodeled back to its original functionality, but the back building will remain simply the shell of what looks like a house with nothing in it. I'm thinking I can cite the detached structure exemption for residential property because: 1. It's part of a residential property 2. It is detached from the primary residential structure and 3. it does not serve as a residence

Does that sound acceptable based on your experience?

Until they put in living quarters in it - it would be a detached structure.

FWIW, I've read much commentary suggesting the safe play for application of the detached structure rule is to rely on the FHA definitions for "second unit" and "accessory dwelling unit". More conservative approach would be presence of two of the three elements (i.e. bathroom, bedroom, kitchen) triggering Flood requirement - I believe that is the FNMA definition?

Another scenario about a detached non-residential structure....

While non-residential detached structures can be excluded, our policy is if the structure is valued over $10,000, flood insurance is required. We have a second lien on a property that includes a primary residence and a detached non-residential shop. The LTV is low, shop was not considered a significant part of the collateral value, and the flood coverage amount is adequate based on the loan amounts for both the first and second lien.

For the home equity loan, we did not obtain an appraisal (AVM was sufficient), which is making it difficult to determine the value of the shop. I believe the shop should be added to the flood policy as an appurtenant structure, but an increase in the coverage amount is not necessary. We are struggling to determine the value of the shop. Can we let the insurance agent determine the value of the shop, add it to the policy and call it good?

Also, would you consider this a "flood violation", since technically flood insurance is not required on the non-residential detached structure (shop)?

Since an appurtenant structure has to be a garage, I am not sure how you would add a shop to the policy that covers the house.

Other than that, this is purely a bank policy issue and not a regulatory one, as long as the shop is used for a personal purpose and does not contain living quarters.

Good question, Mel. First, what do you mean that flood insurance isn't required on the non-residential detached structure (shop)? Is that structure not in a flood zone? If it is in a high-risk flood zone, insurance would be required - unless you mean the non-residential structure just isn't a residence but is for consumer purposes. (My point is - like Randy pointed out - that if the shop is for business purposes, you can't use the detached structure exemption.)

Secondly, yes, you should be able to work with an insurance agent to get the amount of insurance to require per FAQ 9:
"In calculating the amount of insurance to require, the lender and borrower (either by themselves or in consultation with the flood insurance provider or other appropriate professional) may choose from a variety of approaches or methods to establish the insurable value. They may use an appraisal based on a cost-value (not market-value) approach, a construction-cost calculation, the insurable value used in a hazard insurance policy (recognizing that the insurable value for flood insurance purposes may differ from the coverage provided by the hazard insurance and that adjustments may be necessary; for example, most hazard policies do not cover foundations), or any other reasonable approach, so long as it can be supported. "

Finally, I agree with Randy that I don't think you can add the shop to the policy.

To clarify, I do mean the non-residential structure isn't a residence and is solely used for consumer purposes; therefore, flood coverage can be waived per the regulation.

Thanks for confirming my thoughts on this being a bank policy. We are planning to reach out to the agent about adding the shop, but it looks like they may refuse, based on your response.

If we document the reason the shop is not covered - 1) non-residential detached structure used for consumer purposes; 2) bank is comfortable making an exception to policy because the shop value is not included in the overall collateral value - will a regulator have any issues with the fact the shop is located in a flood zone, but not covered by flood insurance?

Unless you are giving special treatment that could be viewed as discrimination, I can't see why a regulator would have an issue. It isn't required and you documented your policy exception.

Great discussion - Thanks for your input Randy and Adam.

Still fine-tuning this situation so we can update procedures.....it will probably happen again. :|

First, would it be acceptable for the borrower to attest that the structure (shop) is non-residential and send us a picture? I don't want to incur additional expense since the shop value was not included in the LTV.

Secondly, the value on the hazard policy is $80,000, which is clearly above our policy limit of $10,000. Once again, not included in the LTV and therefore not a safety and soundness issue. Could we document the exception using the hazard insurance value, even though that's not a good practice when it comes to flood insurance. Or, is using the hazard insurance value only regarding insurable value?

First - I am confused as to why your appraisal or evaluation would not address a building on the property - especially considering if the property was located in a SFHA. You should be pulling your FHD prior to ordering your appraisal/evaluation to insure that does not happen.

Second - You have a shop that is insured for $80,000? It must be some shop for only personal use - wish I had one. Again you are talking about an internal policy. How you document an exception concerning an internal policy should already be addressed within your own procedures.

I don't think the borrower can attest to this. The lender should inspect the property to verify it meets all of the detached structure exemption criteria. The final rule uses the wording "as determined by the Lender" on page 26 of the Final Rule (when discussing the building's purpose) and on page 29 (when discussing whether there's a residential structure on the property). Many times, the Rule discusses the lender "examining" the structure "to make a determination" of its purpose.

That's what I was afraid of....looks like someone will be going on a field trip.