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Keeping Your Head Above the Water: New Private Policy Flood Rules

By Lisa Lugtigheid 20 Mar 2019

With the new year came the issuance of the long-awaited final rule on private flood insurance. The Rule chiefly addresses three components:

1. The mandatory acceptance of policies that meet the definition of "private flood insurance."

2. The permissible acceptance of policies issued by private insurers that do not meet the statutory definition (provided certain conditions are met).

3. The allowance to accept plans provided by mutual aid societies, subject to certain criteria.

In this two-part series, we will address each of these sections in detail to help you prepare for the July 1 effective date.

To begin with, the bulk of the final rule is the mandatory acceptance provision for policies issued by private insurers that meet the definition of private flood insurance. A policy must meet seven conditions to meet the statutory definition of private flood insurance. If a policy contains all seven conditions, then the lender is required to accept the private flood policy, as long as it meets the required amount of coverage. Those seven conditions follow:

• The policy must be issued by an insurance company that is licensed, admitted or otherwise approved in the state where the property to be insured is located, including surplus lines insurers who are recognized or not disapproved by the applicable insurance regulator.

• The policy must provide coverage that is at least as broad as the coverage afforded under the Standard Flood Insurance Policy (SFIP) issued under the NFIP.

• The policy must include a requirement for the insurer to give 45 days' written notice of cancellation or non-renewal to both the insured and the lender or servicer acting on the lender's behalf.
• The policy must include information that informs the policyholder of the availability of NFIP coverage.

• The policy must contain a mortgage interest clause similar to that found in the SFIP.

• The policy must contain a provision requiring the insured to file suit no later than one year after the date of written denial for all or part of a claim.

• The policy must contain cancellation provisions as restrictive as those in an SFIP.
While these requirements might seem clear at the outset, we quickly see that the devil is in the details. For example, what is meant by coverage that is "at least as broad as" that afforded under the SFIP? While the final rule was somewhat simplified, a number of factors still go into the analysis of this phrase.

Essentially, a lender must consider deductibles, exclusions and conditions offered by the insurer by comparing similar policies based on type. That means a lender will compare a single-family dwelling SFIP to the single-family private policy presented. In doing so, the lender must verify that the events of flood include those events listed in the SFIP. The private policy must contain those coverages and provisions specified in the SFIP, including those related to personal property coverage (if purchased), building coverage, other coverages, and the increased cost of compliance provisions. The deductibles must be no higher than those offered under the NFIP. However, for policies with coverage that exceeds the coverage available under the NFIP, the policy must only meet the deductible for the amount of coverage available in an SFIP. For example, a residential structure with coverage of $500,000 need only have a deductible that matches the $250,000 maximum coverage available under the NFIP. The amount of insurance that exceeds the $250,000 may have a higher deductible. Additionally, the policy should have coverage for direct physical loss cause by a flood, but should not contain conditions that narrow the coverage. It may also contain anti-concurrent causation clauses as long as the clauses exclude loss to no greater degree than an SFIP. If the private policy the lender is reviewing meets all of the above criteria, then the coverage will be determined to be at least as broad as the coverage available under an SFIP.

This seems like a lot of extra work. The good news is that all of this analysis has a silver lining ... kind of. While no lender can escape the requirement to have policies and procedures in place to accomplish the above analysis (if need be), the drafters of the final rule were kind enough to include a compliance aid. This aid allows a lender to conclude that the private policy meets the definition of private flood insurance without further review, if the policy contains an endorsement from the insurer that states the following: "This policy meets the definition of private flood insurance contained in 42 U.S.C. 4012a(b)(7) and the corresponding regulation." The downside to the compliance aid is that the agencies do not regulate the insurance industry, and insurers are not required to include the endorsement. Now, of course, even if the insurer does include the endorsement, a lender is still free to make its own determination based on the criteria above. But a lender presented with a policy that does not contain the compliance aid will be required to go through the analysis outlined above and make a determination about whether the policy meets the definition of private flood insurance and is therefore required to be accepted by the lender.

A couple of other interesting nuances to note regarding the seven conditions are the fact that the 45-day written notice of cancellation condition is actually broader than the cancellation provision contained in the current SFIP, yet the agencies have retained this condition in the final rule. In addition, many condominium policies will be disqualified from meeting the definition of private flood insurance due to the mortgage interest clause requirement, which a condo policy typically does not have. Lastly, the agencies understand that the requirement to contain a provision limiting lawsuits to the first year may disqualify some private policies that operate under state laws with different or no statute of limitations, yet the condition remains in the final rule.

Now, take a few deep breaths and a minute to digest all this new information, then stay tuned for part two of this series next week. We will address the optional acceptance provisions for policies that do not meet the criteria above, as well as policies issued by mutual aid societies.

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