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Private Flood Insurance – Navigating Uncharted Waters

Supervision News Flash
August 2021

Since the passing of the Biggert-Waters Flood Insurance Reform Act of 2012, there have been a sea of changes to flood insurance regulations. The most notable one is that banks have been directed to accept private flood insurance if the policy meets certain criteria. For Federal Reserve supervised banks, Regulation H of the Board of Governors of the Federal Reserve System was amended to enact this change. Here is what you need to know to stay afloat.

In the past, all flood insurance policies had to be backed by the National Flood Insurance Program (NFIP), which has inherent limitations. One of those limitations is that a property had to be in an NFIP participating community to purchase the insurance. Another limitation is the maximum allowable NFIP limit on a residential structure caps out at $250,000.

To put that number into perspective, let’s say a customer has a home that’s worth $500,000 located in a flood hazard zone. The home is financed for $450,000; however, the financial institution can only require a flood insurance policy for the lesser of the outstanding principal balance of the loan, the insurable value of the property, or the maximum amount available under the NFIP. A customer can purchase more insurance to cover the potential shortfall, but policies under the NFIP can be very expensive. Due to the rising costs of NFIP policies, more consumers may be considering private flood insurance. Private flood insurance offers potentially lower rates and deductibles, higher coverage limits than the NFIP, may cover more structures and can also pay for living expenses if the home becomes uninhabitable.

For these reasons financial institutions may begin to see more customers choosing a private flood insurance policy over one backed by the NFIP. While there may be some hesitation about entering uncharted waters and accepting these policies, Regulation H specifically discusses private flood insurance. It might sound like an ocean full of guidelines and seem intimidating to comply. The takeaway is this — private flood insurance must be accepted if it meets all the definitions in Section 208.25(b)(9) of Regulation H. A straightforward way to determine if a private flood insurance policy meets the definitions is to locate the “Compliance Aid” statement. If the policy or an endorsement to the policy includes the following statement: This policy meets the definition of private flood insurance contained in 42 U.S.C. 4012a(b)(7) and the corresponding regulation, then the financial institution can rest assured that their interest is covered by the private flood policy. Here’s a link to the Federal Register notice for more details.

As consumer awareness about the availability of private flood insurance grows, these policies will likely become more prevalent. Unlike sharks in the water, these insurance policies shouldn’t be feared! Private flood insurance is another option for conventional-mortgage customers to protect their homes, and it gives customers options that could provide greater coverage at a lower cost.

If you’re a state member bank supervised by the Federal Reserve Bank of Richmond and would like assistance on traversing through this or other changes to flood regulations, reach out to your portfolio central point of contact for more guidance.