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Q&A | The Flood Gates are Opening: New Flood Rules in 2016

By Temenos reporter 22 Dec 2015

Last week’s Temenos Talks webinar, “The Flood Gates are Opening: New Flood Rules in 2016“, was a tremendous success! Thank you to everyone who attended! A recording of the webinar can be found here for those of you who didn’t have a chance to join.


Larry and I had many terrific questions and comments come in, but due to the large turnout, I was not able to answer all of them during the session. Since compliance is on the minds of just about everyone in the industry, I wanted to share some of those questions, along with their answers, with the entire Temenos Talks community. I’ve compiled them below, as well as a few additional resources you may find beneficial.


If loan pays off between 1/1/16 and 6/30/16, do you still send the escrow option letter? 
The option notice must be mailed or delivered on, or before, June 30, 2016. So, if the loan does not close on or before the 30th, then you must get it in the mail on the 30th. Keep in mind that the 30th is a Thursday, so no waiting until Friday to mail or deliver.


Will you be updating the Flood policy before the end of the year?
The Flood policy has already been updated in the TriComply system and is posted on the KnowledgeBase as a standalone policy under the “Manuals” tab. Both a clean copy and a redline copy is available for your reference.


If you fall under the Small Lender Exception, would you still have to escrow flood insurance if you have a HPML loan?
If you have the small lender exception under the mandatory escrow for flood insurance rules, you are exempt from the mandatory escrow of flood insurance rules for residential improved real estate designated loans. However, do not confuse this with any requirement you may have under Regulation Z for HPMLs. The exemption under flood is not an exemption under Reg Z. If you are required to escrow for taxes and or insurance under the HPML rules, then flood would also be required as it always has been (if you require escrow for one, then you also have to escrow for flood).


According to the chart, wouldn’t the institution have until July 1, 2018 to escrow? Not January 1, 2018? They lose the exemption at that time but do not have to escrow until July 1, 2018? 
Great catch! My humblest apologies. Yes, escrowing would be mandatory by July 1, 2018, not Jan 1, 2018 (and notice of option to escrow by Sept 30, 2018). Sorry for the quick fingers on that response.


Did they just say that escrow deposits kept by a bank would be considered additions to the bank’s deposit total? Or to its assets?
I may have misspoke stating Escrow deposit funds are included in Loan-to-Deposit ratios during the presentation. What I meant to iterate was the fact that you will have escrow accounts that you may not have to pay interest on, depending on your state law. Thank you for the clarifying question.


How much coverage is required? For example, $500,000 loan secured by an assignment of deed of trust ($1,500,000) which is a lien on a property with 3 separate commercial buildings in a flood zone. 
If the assignment is only to the note and not to the collateral itself, then there is an Interagency Flood FAQ from 2009 that states no insurance would be required:

42. If a borrower offers a note on a single-family dwelling as collateral for a loan but the lender does not take a security interest in the dwelling itself, is this a designated loan that requires flood insurance?
Answer: No. A designated loan is a loan secured by a building or mobile home. In this example, the lender did not take a security interest in the building; therefore, the loan is not a designated loan.

If, on the other hand, it is truly an assignment of the mortgage DOT, then the collateral securing the loan would be covered. If the loan is $500k, RCV/ACV is $1.5m, and available NFIP appears to be $1.5m (based on your limited facts – 3x$500k), then, for compliance, it is the lesser of the (3), which would be your loan amount of $500k. You will need to spread this out over the 3 buildings.

You should confirm the details of the assignment as well as the collateral securing the note in the event a default event would occur. You would want to consider from a safety and soundness perspective whether you’re protected.


What if we have a commercial loan on a mobile home park, where the laundromat on the property is in a flood zone. Would we need to require flood insurance on this structure? 
If the laundromat is part of the collateral, then yes, you must obtain flood insurance on the building. It is not subject to mandatory escrow because it is exempt under the business, commercial or agricultural loan.


What is the best way to determine “insurable value”?
In, October 2011, the Agencies amended the Interagency Flood FAQs to specifically address your question:

II. Determining the Appropriate Amount of Flood Insurance Required Under the Act and Regulation
9. What is the “insurable value” of a building?
Answer: The insurable value of a building is the same as the overall value of a property minus the land on which the property is located. FEMA’s Mandatory Purchase of Flood Insurance Guidelines state that the insurable value of a building is the same as 100 percent replacement cost value (RCV) of the insured building, which is defined as “[t]he cost to replace property with the same kind of material and construction without deduction for depreciation.”8 FEMA’s guidelines, however, also provide that lenders should avoid creating a situation in which the insured pays for more coverage than the NFIP would pay in the event of a loss.9 Strictly linking insurable value to RCV is not practical in all cases. In cases involving certain residential or condominium properties, insurance policies should be written to, and the insurance loss payout usually would be the equivalent of, RCV.10However, in cases involving nonresidential properties, and even some residential properties, where the insurance loss payout would normally be based on actual cash value, which is RCV less physical depreciation,11 insurance policies written at RCV may require an insured to pay for coverage that exceeds the amount the NFIP would pay in the event of a loss. Therefore, it is reasonable for lenders, in determining the amount of flood insurance required, to consider the extent of recovery allowed under the NFIP policy for the type of property being insured. This allows the lender to assist the borrower in avoiding situations in which the insured pays for coverage that exceeds the amount the NFIP will pay in the event of a loss. Lenders need to be equally mindful of avoiding situations in which, as a result of insuring at a level below RCV, they underinsure property. 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.

Is there also a loan number limit under the small lender exception?
No, there is no certain number of loans like there is under HMDA or Regulation Z. The exceptions are based on loan-related exceptions and then the small lender exception as noted in the presentation.


Where can I locate the definition of extend?
The regulation does not define “extend”. As such, you need to look to the make, increase, renew or extend… Essentially, extend is used rather than modify a loan to avoid triggering the flood rules for modifications that had nothing to do with extending the term of the loan, such as a modification to change the interest rate but not a longer term to repay. So, extend refers to the extension of the term of the loan. It does not include shortening the term (by definition).


If our policy on or before July 6, 2012 required escrow of taxes on our mortgage loans and we made exceptions to the policy, could we be eligible for small lender exemption?
No, because your policy was to consistently and uniformly require the escrow of taxes. An exception or two does not void that policy. Now, if your practice was more exceptions than following the policy, that could be a different arguable issue. However, I would be very careful with trying to leverage that perspective as you could be talking yourself into possibly an HPML violation, depending on the circumstances, such as not escrowing on an HPML loan when you should have.


Can you verify the answer provided about charging a one-time fee for escrow set up? We’ve been previously told by outside counsel that doing so would be a violation of RESPA (1024.12). 
From a compliance perspective (as we do not provide legal advice) 12 CFR 1024.12 provides that a lender may not charge a fee for preparing or distributing the HUD, the escrow account statements or the TIL; it does not state that a fee may not be charged. There are some who do argue that because you are required to escrow, then, you should not be able to charge fees for services you are required to perform in order to comply with a regulation. However, RESPA specifically calls out the preparation and distribution of specific forms. I would check with your Examiner in Charge to see their position on the matter. You may also want to check if you have a state law requirement vs. the federal compliance advice provided here.

§ 1024.12 No fee.
No fee shall be imposed or charge made upon any other person, as a part of settlement costs or otherwise, by a lender in connection with a federally related mortgage loan made by it (or a loan for the purchase of a manufactured home), or by a servicer (as that term is defined under 12 U.S.C. 2605(i)(2)) for or on account of the preparation and distribution of the HUD-1 or HUD-1A settlement statement, escrow account statements required pursuant to section 10 of RESPA (12 U.S.C. 2609), or statements required by the Truth in Lending Act (15 U.S.C. 1601 et seq.).

For the small lender exception, is the $1 billion threshold for a bank or for a holding company?
From the Preamble to the Final Rule, it is only the institution, and not an aggregate with the holding company. Some commenters also asked whether the assets to be measured applied per institution, or whether the assets of all institutions under common ownership must be aggregated. The Agencies’ regulations state that the measurement reflects the assets of only the regulated lending institution. As a result, regulated lending institutions need not consolidate the assets of other institutions under common ownership with the regulated lending institution for the measurement of asset size.


Again, thanks to those who attended last week. Remember to check back here for our latest blogs and webinars!

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