More on flood insurance

Following up on my article of the other day which discussed, in part, changes to flood insurance rates, Salon has a comprehensive article on the issue from a national perspective.  (Ignore the click-bait title, which does not reflect the content of the article.)

Waxing philosophical

Talking with my daughter about a school assignment today (writing fortunes for fortune cookies, if you must know) led me to this John Donne poem.  I knew the beginning and the end.  The middle expresses how I feel about property loss from natural disasters.  Whether or not there's ultimately insurance coverage for a building that has been damaged or destroyed by a hurricane, a family losing its home has repercussions throughout  the fabric of our society. 

No man is an island,
Entire of itself,
Every man is a piece of the continent,
A part of the main.
If a clod be washed away by the sea,
Europe is the less.
As well as if a promontory were.
As well as if a manor of thy friend's
Or of thine own were:
Any man's death diminishes me,
Because I am involved in mankind,
And therefore never send to know for whom the bell tolls;
It tolls for thee.       

Along the same lines, the Boston Herald has this article about the effect of FEMA's new flood zone maps on flood insurance in Boston.  I've posted before about the intersection of liability insurance and taxes.  Given that higher flood risks are likely related to climate change, a result of the workings of our society as a whole (see above)  and out of the individual control of longtime homeowners of property near major bodies of water, it seems only right that moderate-income families who can't afford higher insurance rates should receive subsidies.  Assuming that the new maps accurately show the risk, as someone who is adamantly pro-insurance, I do support requiring homeowners in flood zones to have flood insurance; moreover, as I discussed here, I support flood insurance on the value of the entire property, not merely to the extent of the mortgagee's interest as the current regulations require.  It's a fair way to spread the risk and will prevent the even worse economic devastation that would occur if entire neighborhoods are damaged by a hurricane and the homeowners are uninsured.  It can be the difference between a few awful weeks or months and long-term homelessness. 

First Circuit overturns itself on flood insurance requirement

I posted here about  Kolbe v. BAC Home Loans Servicing, LP, 695 F.3d 111 (1st Cir. 2012), a case in which the First Circuit Court of Appeals overturned the dismissal of the complaint of a homeowner alleging that a mortgage lender did not have authority under the loan documents to demand that the homeowner purchase flood insurance in excess of the outstanding loan amount.  The court held that the loan documents were ambiguous and that therefore the court could not determine the issue as a question of law. 

The First Circuit has now revisited the case in Kolbe v. BAC Home Loans Service, LP, __ F.3d __, 2013 WL 5394192 (1st Cir.) and overruled its prior decision.

Kolbe, the homeowner, contended that the mortgage lender cannot require more than the federally mandated minimum flood insurance, which is the lesser of the balance of the loan or $250,000 in flood zones and $0 in non-flood zones. 

Kolbe's mortgage loan was guaranteed by the Federal Housing Administration.  The mortgage agreement contained uniform covenants that are required by HUD regulations to be in every FHA-insured mortgage.  One of those covenants provided:

4.  Fire, Flood and Other Hazard Insurance.  Borrower shall insure all improvements on the property, whether now in existence of subsequently erected, against any hazards, casualties, and contingencies, including fire, for which Lender requires insurance.  This insurance shall be maintained in the amounts and for the periods that Lender requires.  Borrower shall also insure all improvements on the Property, whether now in existence or subsequently erected, against loss by floods to the extent required by the Secretary [of HUD]. 

Kolbe filed a class action suit contending that under the contract the bank could not require him to purchase insurance in excess of the balance of the loan.  The District Court granted the lender's motion to dismiss.  Kolbe appealed, and in the panel decision discussed in my previous post the First Circuit vacated the dismissal.  The First Circuit then granted rehearing en banc.

In its en banc decision the court held, first, that the contract provision was a uniform provision used in many contracts, and therefore it must be interpreted uniformly regardless of what an individual contracting party may have understood the clause to mean. 

It held, second, that because the uniform contract language was imposed by the government of the United States, the government's meaning with respect to the language controls.  That meaning is determined in light of the purposes for which the government imposed the language and the context of the relevant regulatory scheme.

The court held that the bank's interpretation was the correct one.  The language of the clause by itself and in combination with other clauses in the contract makes clear that the bank can impose a requirement of additional flood insurance. 

The court also held that under a broader context the bank's interpretation must prevail.  As one example given by the court, if the borrower defaulted on an FHA-guaranteed loan, HUD ultimately would take possession of and sell the property, reimbursing the mortgage insurance fund with the proceeds of the sale.  But if the house had been destroyed by flood then "there is nothing" (a slight exaggeration, but still) for HUD to sell. 

Finally, the United States submitted an amicus brief supporting the bank's interpretation.  The court held that it was required to defer to the interpretation offered by the United States unless that interpretation was clearly erroneous.   

Another First Circuit case on whether mortgage lender can increase flood insurance requirement

Last week I posted about  Lass v. Bank of America, __ F.3d __, 2012 WL 4240504 (1st Cir.),  in which the United States Court of Appeals for the First Circuit held that, taken as a whole, mortgage documents were ambiguous as to whether the lender could demand that the borrower increase her flood insurance coverage.

The First Circuit issued a companion opinion in the case of Kolbe v. BAC Home Loans Servicing, LP, __ F.3d __, 2012 WL 4240298 (1st Cir.).

As in Lass, Kolbe, a mortgage borrower, asserted that Bank of America's demand that he increase his flood coverage breached the terms of his mortgage contract. 

The mortgage contract required that Kolbe "insure all improvements on the Property, whether now in existence or subsequently erected, against any hazards . . . for which the Lender requires insurance.  This insurance shall be maintained in the amounts and for the periods that Lender requires.  Borrower shall also insure all improvements on the Property, whether now in existence or subsequently erected against loss by floods to the extent required by the Secretary [of HUD]."

Kolbe was required by federal law to obtain flood insurance because his property is located in a special flood hazard zone under the National Flood Insurance Act. The minimum amount mandated by the law is coverage at least equal to the outstanding principal balance of the loan, or $250,000, whichever is less. 

An aside:  I find this provision shocking.  I believe everyone should have adequate insurance, and I support the government regulating flood insurance to the extent that such flood insurance might not be affordable, or available at all,  in flood hazard zones without such regulation.  But I can see no reason why the government should mandate that homeowners are required to have insurance to protect the interests of the lenders but not of the homeowners.  The lenders can protect their interests by including a flood insurance requirement in the loan contract.

Moreover, as the court noted in Kolbe, the National Flood Insurance Act was passed because major floods had required "unforeseen disaster relief measures and placed an increasing burden on the Nation's resources."  By requiring insurance only to the extent of the lender's interests, the law demonstrates that the government is interested in protecting financial institutions but not homeowners. 

Getting back to the decision, Kolbe purchased more than the minimum required amount of flood insurance.  Bank of America subsequently sent notice to Kolbe that he was required to increase his flood insurance coverage to the total replacement cost of his property as identified in his homeowner's policy.  (Everyone:  if you are in a flood plain you should have flood insurance to the replacement cost of your property, regardless of what your mortgage lender says.)

The court held that the insurance provision in the contract was ambiguous, and therefore turned to extrinsic evidence to interpret it.  It noted that HUD treats hazard insurance and flood insurance separately, but also that FEMA recommends replacement value flood insurance.

The court concluded that the extrinsic evidence was also, therefore, ambiguous.  It held that the District Court erred when it dismissed Kolbe's complaint on the ground that the mortgage unambiguously permitted the lender to demand additional coverage. 

First Circuit vacates District Court ruling that mortgagee can require flood insurance in excess of amount of mortgage

I posted here about the decision of the United States District Court for the District of Massachusetts in Lass v. Bank of America, in which the court held that under the terms of the mortgage agreement that mortgagee bank could require the homeowner to have more flood insurance than the bank's interest in the property (in other words, more than the mortgage amount).

The United States Court of Appeals for the  First Circuit has now vacated that decision and remanded the case.  In Lass v. Bank of America, __ F.3d __, 2012 WL 4240504 (1st Cir.), the court held that although the pertinent mortgage provision gives the lender discretion over the amount of flood insurance, a supplemental document given to the borrower at her real estate closing may be read to state that the mandatory amount of flood insurance imposed at that time would remain unchanged for the duration of the mortgage. 

The mortgage agreement required the borrower to have flood insurance to "be maintained in the amounts and for the periods that Lender requires." 

A separate document, entitled "Flood Insurance Notification," stated, "At the closing the property you are financing must be covered by flood insurance in the amount of the principle [sic] amount financed, or the maximum amount available, whichever is less.  This insurance will be mandatory until the loan is paid in full." 

Lass obtained flood insurance equal to $40,000, the full amount of her loan.  She subsequently voluntarily increased the coverage to $100,000. 

The lender later told her that she needed an additional $145,086 in flood insurance, to reflect the replacement value of the improvements on the property. 

Lass refused to purchase the additional insurance.  After notice to her, the bank purchased it for her and charged her escrow account for the premium. 

Applying contract interpretation principles, the court held that the mortgage and notification, taken together, are ambiguous as to the lender's authority to demand increased flood coverage on Lass's property. 

First Circuit holds that dec page cannot create ambiguity in flood policy terms

In McGair v. Am. Bankers Ins. Co., __ F.3d __, 2012 WL 3793130 (1st Cir. 2012), the First Circuit Court of Appeals held that the terms of a declarations page do not create an ambiguity in a flood insurance policy.

The McGairs purchased a flood insurance policy from American Bankers Insurance Company. The policy was part of the federal flood insurance program about which I've written previously. Under the program, private insurers issue and administer flood policies and claim payments are reimbursed by the Federal Emergency Management Agency (FEMA). FEMA provides a standard text for the policies, which are called Standard Flood Insurance Policies, or SFIPs.

The policy stated that it is provided "under the terms of the National Flood Insurance Act," and that it "cannot be changed nor can any of it provisions be waived without the express written consent of the Federal Insurance Administrator."

SFIPs limit coverage for personal property in basements. (According to the court in McGair, the limitation "serves to encourage construction that minimizes the risk of flooding (e.g., elevated foundations and buildings without basements.)" I'll have to suspend my disbelief on that one.)

In 2010 a flood damaged the McGairs' house and personal property in their basement. They sought compensation from American Bankers. American Bankers denied the claim, asserting the basement contents were not covered.

The McGairs sued, arguing that the Declarations Page created an ambiguity as to the scope of their policy. The Declarations Page indicated that the McGairs have a finished basement and that the contents of their home are located in the "basement and above." It provides that the contents of the home are covered by the policy up to $100,000 and identifies none of the SFIP limitations. The parties agreed that the information was used by American Bankers for the purpose of calculating premiums.

The court held, "there can be no ambiguity between the SFIP and the McGair's Declaration page because the terms of the SFIP control . . . Thus, as a matter of law, any discrepancy between the SFIP and an accompanying Declarations Page must be resolved in favor of SFIP."