Your partners at Superior Consulting realize that the community bank is under siege from an unprecedented volume of new regulation, ever increasing competition, thin profit margins, and an unusually hostile regulatory environment. Our singular mission is to provide you with Guidance You Can Trust during these troubled times in order to ensure your institution does not become yet another statistical casualty of this environment.
Many bankers were relieved to learn about the Homeowner Flood Insurance Affordability Act of 2014 (the Affordability Act) which became effective on March 21, 2014. The purpose of the Act is to repeal and modify the Biggert-Waters Flood Insurance Reform Act (Biggert-Waters) which was enacted in 2012. While the Affordability Act does indeed repeal and modify Biggert-Waters, it is not a moratorium, and it is important to understand its exceptions so that you can determine the Affordability Act’s impact on your bank.
Biggert-Waters reauthorized the National Flood Insurance Program and outlined changes to make the program more sustainable, including the removal of long-standing premium subsidies. At the time of its passage, approximately 20% of all NFIP policies benefited from subsidized rates. It should be noted that depending on a property’s elevation, a full-risk rate can be as much as several times the current subsidized rate. Under Biggert-Waters, beginning on October 1, 2013, flood insurance premiums were to increase 25% annually until reaching full-risk rates for the following properties: severe repetitive loss properties, properties where cumulative paid flood losses exceeded the property’s fair market value, non-primary residences (beginning January 1, 2013), and commercial properties. In addition policies were to be written or renewed at full-risk rates for property purchased on or after July 6, 2012, new policies effective on or after July 6, 2012 and lapsed policies reinstated on or after October 4, 2012. Owners of primary residences that did not fit any of the categories affected were allowed to keep their subsidized rates as long as they owned the property and coverage did not lapse, but full-risk rates would apply for the next owner.
The Affordability Act
The Affordability Act lowers recent rate increases on some policies, prevents some future rate increases, repeals certain rate increases that have already gone into effect and provides for refunds to those policyholders. However, it also imposes a new surcharge on all policyholders. A policy for a primary residence will include a $25 surcharge. All other policies (e.g., policies covering commercial properties and owner-occupied non-primary residences) will include a $250 surcharge.
The new law allows gradual rate increases to properties now receiving subsidized rates instead of immediate increases to full-risk rates required under Biggert-Waters. Those properties include properties purchased on or after July 6, 2012, new policies effective on or after July 6, 2012 and lapsed policies reinstated on or after October 4, 2012. Most subsidized properties will see a minimum increase of 5% and a maximum amount of 18% annually until full-risk rates are achieved. While the owners of these policies will now see annual increases, the Act slows the escalation to full risk-rate and will be a welcome relief for property owners who experienced drastic increases under Biggert-Waters.
As with most laws, there are exceptions to the general rules. In the case of the Affordability Act, those exceptions will generate an impact on banks that needs to be understood in order to effectively manage risk. Under the Act, policies for certain types of properties will continue to see up to a 25% annual premium increase â€“ the same amount required under Biggert-Waters. The excepted types are flood insurance policies for commercial properties, owner-occupied non-primary residences (e.g., secondary residences, such as vacation homes), severe repetitive loss properties and buildings that have been substantially damaged or improved built before the adoption of a flood insurance rate map. These policies are also subject to the $250 surcharge described above.
The New Act’s Effect on Missouri Banks
While Missouri is not a state like Florida where the number of properties located in a flood zone probably exceeds the number of properties not located in a flood zone, banks in Missouri make loans secured by commercial properties in flood zones and by owner-occupied second or vacation homes, such as lake homes located in flood zones. Those properties are unaffected by the Affordability Act and subject to the same premium increases required under Biggert-Waters.
Bankers need to understand flood insurance premium reforms for several reasons. Increases and refunds may generate escrow account issues. Higher premiums may lead to more non-renewals. Non-renewals generate increased force-place insurance. Force-place insurance policies can be more expensive than standard policies. More importantly, non-renewals can lead to more defaults and a subsequent increase in bank-owned properties. These issues affect bank operations and loan underwriting and may require additional bank resources.
Existing flood insurance policies on residential properties can continue at subsidized rates unless there has been a lapse in coverage. If a lapse occurs and the policy is reinstated, the Affordability Act requires that the premium be subject to annual increases of 5% to 18% until the full risk-rate is reached. Now more than ever, to protect the bank from potential liability and to protect customers, banks should make an effort to ensure that a lapse does not occur. Compliance personnel should institute and oversee procedures to track insurance policies for expiration dates to ensure that they are renewed in a timely manner. In addition, notices from insurance companies should be reviewed to ensure that policies are not prematurely cancelled. Consideration should also be given to communicating the risk of lapsed policies to customers. While not required, such communication could increase customer awareness of the consequence of a lapse and protect the bank.
In conclusion, while the Affordability Act did slow down the effect of Biggert-Waters on some subsidized premium rates, rates will continue to increase until they reach full risk-rates. Owners of commercial properties and owner-occupied second homes located in a flood zone will not experience any relief from the new Act and in addition, will now be required to pay the new surcharge. Those owners are entitled to wonder if the word affordability really belongs in the Act’s title.
By: Elizabeth Reefer
This article was published in the August 2014 edition of the Missouri Independent Bankers Association Newsletter.August 9, 2014
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