As a lender, you are under increasing scrutiny by regulators to comply with federal flood insurance requirements. To avoid the risk of non-compliant loans and financial penalties, you need to understand four main areas before closing a loan in a FEMA-designated flood zone:
1. Know your loans.
When you make, increase, extend, renew or secure a loan, know the flood hazard assessment and a conduct a flood risk analysis for each property. Flood maps, SFHA designations, regulations and lender requirements are complicated and always changing. Make sure you have a solid understanding of a property’s flood risk and what is required of you and the borrower.
2. Communicate with your borrowers.
Transparency, documentation and monitoring are the keys to complying with flood insurance compliance:
Before closing: Inform the borrow in writing about their flood insurance requirements and make sure you get written acknowledgment. Give borrowers a (reasonable) time frame to obtain insurance. Document, document, document.
After the loan is in place: Make sure you have a system to monitor and flag lapsed policies and insufficient policies. If you find noncompliant loans, let the borrower know in writing that they have 45 days to get a policy. If not, you as the lender must initiate force-placed insurance to be in compliance.
3. Make sure an adequate flood policy is in place.
To cover your compliance bases, require borrowers to provide proof of adequate flood insurance for any property located in a special flood hazard area (SFHA). Regulations require that the insurance amount is at least the lesser of the loan’s outstanding principal balance, the maximum available coverage NFIP allows for property in question; or the insurable value of the property.
4. Monitor flood zone changes.
Did you know that If a property can be designated as part of an SFHA after origination? If that happens, the onus is on you as the lender to reach out to the borrower and let them know they need flood insurance.
Compliance is no joke for lenders when it comes to flood insurance. It’s a two-fold risk: 1) risk of getting stuck with a default and 2) getting hit with financial penalties from regulators.