Loan Buyers Are Worried that Flood Coverage May Not Be Adequate

Lenders and their insurance partners are facing renewed pressure from Fannie Mae, Freddie Mac and Ginnie Mae to ensure that properties at risk of flood damage carry adequate insurance, according to an insurance industry executive with Safeco Financial Institutions Solutions.

"That's one of the hot buttons right now," said Greg Nelson, a senior vice president for underwriting and claims at Safeco.

As a result, the secondary market agencies want mortgage servicers to make sure that homeowners carry adequate coverage to offset likely damage from a flood or storm.

Since companies such as Safeco provide servicing of insurance for clients, maintaining adequate coverage becomes an issue for them.

Fannie Mae, Freddie Mac and Ginnie Mae all have different policies regarding flood coverage. Fannie Mae requires coverage for 100% of the replacement cost or the maximum insurance amount allowable. Freddie Mac requires the greater of the loan balance or the replacement cost.

The Federal Emergency Management Agency requires the lesser of the loan balance or the replacement cost. FEMA's maximum coverage amount under the National Flood Insurance Program is $250,000.

"This is a relatively new issue, so nobody is quite sure how the government entities are going to audit it or review it," Mr. Nelson said. "What we are finding is that a lot of people do have flood coverage, but they don't meet these minimum requirements."

As a result, lenders and insurance providers are scrambling to make sure they are in compliance with minimum flood coverage levels.

If a lender or insurance tracker finds that a borrower is not in compliance, then a notice must be sent out. If coverage is not brought up to the required level, additional coverage can be force-placed on the property to make up the deficiency.

Making sure coverage is adequate is an additional challenge for the lender-placed insurance industry, which already has to deal with many homeowners who do not realize they are required to buy flood insurance. Historically, by some estimates, only a quarter of homeowners in designated flood hazard areas actually purchased insurance, though pressure has built in recent years to make sure mortgage lenders enforce the rule and today the rate is probably much higher.

"A lot of people, when they purchase homes, are not even aware that they are going to be required to buy flood insurance," Mr. Nelson said.

Because the government is concerned about subsidizing homeowners with ad hoc disaster assistance when flooding does occur, there is more attention on compliance with flood insurance requirements than in the past, Mr. Nelson said.

Flood insurance isn't the only area where lenders are concerned about the adequacy of coverage. Hazard insurers are under pressure because of claims related to mold, and there is concern that the mold "crisis" may limit the availability of hazard insurance. High-profile mold lawsuits and damages have caught the attention of insurers.

"A lot of primary insurance carriers have either withdrawn from the market or really restricted the availability of voluntary coverage," Mr. Nelson said.

That may mean that more and more homeowners will be left with force-placed hazard insurance coverage if voluntary policies become difficult to obtain. Court cases in California, Florida, Texas and New York have raised hackles in the insurance industry, and the issue has mushroomed into a national concern.

Insurers are minimizing or eliminating coverage for mold damages in their hazard insurance policies. That has raised questions about whether or not the coverage being obtained by many homeowners today is in compliance with requirements set forth in mortgage documents.

"Lenders have to be aware of some of these policies that are coming in to make sure they meet the requirements of Fannie Mae and Freddie Mac," Mr. Nelson said.

At this point, the impact of the mold issue on insurance availability and rates is unclear, he said.

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