Lender Placed Insurance Regulation Stifles Market, Creates Uncertainty

Uncertainties deriving from still unclear Dodd-Frank Act requirements on lender-placed insurance starting with disclosure forms have put mortgage insurers on the hot seat as they strive to provide services and get ready for further changes.

The Dodd-Frank framework of changes will be defined in the coming weeks and months, said Ken Evans, an executive with Loan Protector Insurance Services, Solon, Ohio, a subsidiary of Willis North America Co. that specializes in lender-placed insurance. It means LPI requirements will affect the basics: the disclosure document forms to be used.

The act requires a notification process that includes two letters are sent to the borrower, but does not specify the format, or the content. The Consumer Financial Protection Bureau is up and running so once information will be available, it will show what type of standardized disclosure format will be required: the information, steps needed, or specific wording that clarifies the customer is expected to secure the insurance “on their own.” LPI is not the most financially advantageous option for the borrower because it does not cover their equity or personal belongings.

“There’s going to be a lot more definition,” he says, when that happens it will define the industry requirements everyone should meet. His hope is that they will take the same “common sense approach to disclosure” seen in proposed RESPA requirements. Insiders may not agree with all changes but switching from multiple documents to a single page document that is user friendly and with understandable information would be “a breath of fresh air.”

If regulators are going to dictate how lenders process LPI, the approved forms need be similarly user friendly, usable, and easy to understand. It is required when the borrower decides to forego mortgage insurance thus prompting the lender to secure their mortgage asset.

“We have found that the written disclosure pieces oftentimes is either misunderstood or ignored,” Evans said, which means insurers need to spend a lot of time on the phone to reach borrowers or reach their agents who tend to be influential over a borrower, and make sure borrowers understand they need to get mortgage insurance and avoid LPI.

Phone calls or other direct communication works better with borrowers than a letter in the mail, he argued. Dodd-Frank needs to come up with a form of communication that is effective because “everything about lending” is always confusing to the average customer, whether it’s flood insurance or hazard insurance "you never want borrowers to be unprotected."

Some insiders call the bill questionable because it focuses on the borrower notification process but does not provide guidance on the specifics of the documents they need to use; what kind of active communication with the borrower can help them understand LPI, flood insurance, hazard insurance.

“We’re certainly seeing that right now with the tornados,” he said. Bailout money from the government tried to make that process right but it is not an easy process. People need to understand that if everyone is insured the assistance “would probably be less daunting” for the government. The key is to ensure active communication is part of the process.

Another issue Dodd-Frank will have to stipulate is the timing of the disclosures through a letter or a phonecall. It may be difficult to reach borrowers who may have been chased by collectors and tend to avoid communication. “Yes we want borrowers to purchase the insurance” but whether it is through the lender, a third party acting on the lender’s behalf, or their insurance agent, the goal is to have both lenders and borrowers protected. “As we’re seeing right now with tornados and floods, the borrower needs to be protected,” Evans argued, and in the long run such efforts will help the entire industry not just the borrower.

Could the recent natural disasters that hit areas traditionally seen as low risk bring about new changes to the current Dodd-Frank language about LPI? Judging from his 35 years in banking, Evans said, “it will be difficult to make a borrower read and try to understand” banking documents. The good news is that the CFPB in proposing a new RESPA form that has "finally grasped the idea that a 32-page document isn’t going to help people” regardless of how completely and thoroughly it discloses data.

According to the Loan Protector Insurance Services managing partner, Dennis Swit, some Dodd-Frank requirements are affecting servicers in a backhanded way, as is the case of the renewal of the borrower’s existing policy. He argues that Dodd-Frank does not have a mandate on the servicer consent orders that require insurance companies to extend the borrower’s original policy before a LPI is applied.

The confusion is over who should do what. If the servicer will have to renew the mortgage insurance policy, is it fair to burden servicers with the processing costs, commissions paid, or monitoring expenses and the costs of bringing together borrowers and their insurance agents so they can agree on an insurance policy? Plus, there are LPI knowledge and expertise gaps between insurers and bankers. “Certainly it will be a concern,” Evans said. At least in theory the servicer is expected to be able to issue an insurance at a low rate. The problem is that the Dodd-Frank mandate on servicer consent orders is a great idea that does not work. “It will be interesting to see how they sort all of that out.”

Dodd-Frank may finalize a LPI standard by July. Meanwhile the insurance industry has already implemented best practices and is sending out notifications. As a rule, basic forms include documents that encourage borrowers to contact the insurer, explain why a borrower-purchased mortgage insurance is a better option than a LPI, and informs borrowers about their insurance related responsibilities.