On October 24, 2014, the Board of Governors of the Federal Reserve System, Farm Credit Administration, Federal Deposit Insurance Corporation, National Credit Union Administration and Office of the Comptroller of the Currency (the "Agencies") announced that they have approved a joint notice of the Agencies' proposed rulemaking to amend regulations pertaining to loans secured by property located in special flood hazard areas. The proposed rule: (1) implements certain provisions of the Homeowner Flood Insurance Affordability Act of 2014 (the "HFIAA") relating to escrowing flood insurance payments, which amends the escrow provisions of the Biggert-Waters Flood Insurance Reform Act of 2012 ("Biggert-Waters"), and (2) provides clarification with respect to HFIAA's stated exemption for certain detached structures from the mandatory flood insurance purchase requirement. A description of each of these requirements, as well as important dates for implementing such requirements, is contained below. Comments to the proposed rule will be due 60 days after it is posted to the Federal Register, which is expected to occur shortly.
New Requirements Regarding Escrowing Flood Insurance Payments
The Agencies' proposed rule generally requires regulated lending institutions, or servicers acting on their behalf, to escrow premiums and fees for flood insurance for any loans secured by residential improved real estate or mobile homes that are made, increased, extended or renewed on or after January 1, 2016, with certain exceptions from this requirement for regulated lending institutions that: (i) have total assets of less than $1 billion; (ii) as of the date of enactment of Biggert-Waters, were not required by Federal or State law to escrow taxes or insurance for the term of the loan; and (iii) did not have a policy to require escrow of taxes and insurance. In addition, pursuant to the proposed rule, regulated lending institutions must offer and make available to a borrower the option to escrow flood insurance premiums and fees for loans that are outstanding as of January 1, 2016, and all premiums and fees subject to this escrow requirement must be payable with the same frequency as payments on the loan that are made for the duration of the loan. The proposed rule also includes the following exceptions from the escrow requirement, as amended by HFIAA: (i) loans that are in a subordinate position to a senior lien secured by the same property for which flood insurance is being provided; (ii) loans secured by residential improved real estate or a mobile home that is part of a condominium, cooperative, or other project development, provided certain conditions are met (i.e. that the association maintains the proper flood insurance coverage for the entire property); (iii) loans that are extensions of credit primarily for a business, commercial or agricultural purpose; (iv) home equity lines of credit; (v) nonperforming loans; and (vi) loans with terms not longer than twelve months. The proposal implements these provisions generally as provided in HFIAA, with additional clarifications to provide more specific guidance to regulated lending institutions in administering this requirement.
In an effort to assist regulated lending institutions to comply with the aforementioned requirements, the Agencies' proposed rule includes new and revised sample notice forms in Appendices A and B. Specifically, the proposal amends the current Sample Form of Notice of Special Flood Hazards and Availability of Federal Disaster Relief Assistance included in Appendix A of the Agencies' proposed regulations, to add language concerning the revised escrow requirement and includes an additional sample clause, Sample Clause for Option to Escrow for Outstanding Loans in Appendix B to assist institutions in complying with the proposed rule's requirement to inform borrowers of outstanding loans about their option to escrow flood insurance premiums and fees.
Significantly, the Agencies noted in their announcement that the amendments made by HFIAA to the current statutes regarding the escrow requirement will not supersede the current escrow provisions during the period beginning on July 6, 2012, and ending on December 31, 2015. Accordingly, regulated lending institutions are advised to comply with the escrow requirements included in the Flood Disaster Protection Act prior to its being amended by Biggert-Waters.
HFIAA's Exemption For Certain Detached Structures From The Mandatory Flood Insurance Purchase Requirements
Consistent with Section 13(a) of HFIAA, the Agencies' proposed rule includes an exemption to the general mandatory flood insurance purchase requirement for certain detached structures on properties located in special flood hazard areas. Specifically, the statute provides that flood insurance is not required to be purchased, in the case of any residential property, for any structure that is "a part of such a property but is detached from the primary residential structure and does not serve as a residence." Although the proposed rule does not provide clarification regarding what constitutes either a "primary residential structure" or a structure that does not serve as a "residence," the Agencies stated that this exemption seeks to exclude "relatively low-value structures" from the mandatory purchase requirement (i.e. detached sheds and garages). It is important to note, however, that Section 13(a) does not require regulated lending institutions to exempt all detached structures from flood insurance coverage. The proposed rule allows regulated lending institutions to continue to require flood insurance on certain detached structure as a matter of safety and soundness, as the Agencies understand that some detached structures might be of relatively high value (i.e. a detached greenhouse).
The Agencies acknowledged that there may be some lingering ambiguity in the proposed rule as it relates to Section 13(a) of HFIAA. In their announcement, the Agencies specifically solicited comment from regulated lending institutions and other industry participants to determine whether further clarification is necessary. As mentioned above, from a reading of the proposed rule, there remains uncertainty as to when such structures serve as a "residence," but may not meet certain State or local definitions of "residence," or when a detached structure that was not initially a "residence" becomes a "residence." Additionally, the proposed rule applies this exemption to "residential property" without including a definition for the term. The exclusion of such a definition creates ambiguity as the term "residential" may refer not only to the type of property securing the loan, but also to the purpose of the loan. It appears from the Agencies' announcement that they are amenable to providing further clarification based upon comments received from regulated lending institutions and other industry participants.
Further, the Agencies proposed an amendment to their regulations on the use of the standard flood hazard determination form for structures exempted from the mandatory flood insurance purchase requirements pursuant to Section 13(a) of HFIAA. Specifically, the proposed amendment would clarify that a regulated lending institution is not required to perform a flood hazard determination for any properties or structures that are exempt from the mandatory flood insurance purchase requirement because flood insurance is not required on such properties and structures. It is the Agencies' belief that requiring regulated lending institutions to determine whether such properties or structures are located in a special flood hazard area is unnecessary and would ultimately result in borrowers being charged unnecessary fees.
Finally, the Agencies note in their announcement that Section 13(b) of HFIAA, which the Consumer Financial Protection Bureau is expected to implement, amends section 5(b) of the Real Estate Settlement Procedures Act. This new section requires regulated lending institutions to send a related disclosure to borrowers informing them that they may still wish to obtain, and mortgage lenders may still require borrowers to maintain, flood insurance even when it is not required by the Flood Disaster Protection Act, as amended.
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