NFIP Renewal. Finally. For a Moment.

NFIP Renewal. Finally. For a Moment.

July 6, 2010 16:22
by J. Wylie Donald

Well, they finally got around to it. Since May 31 the National Flood Insurance Program has had no authority to issue flood insurance contracts. The House approved extending the NFIP's authority on June 23, the Senate on June 30, and the President signed the bill July 2, retroactive to June 1 (fittingly, the first day of the official Atlantic hurricane season). This is not a new circumstance. The NFIP's authority first lapsed on March 1, again on March 28 and will do so again on September 30, absent a long-term extension.

So what does it mean when the NFIP can't make loans? Dante described a place of sadness and hopelessness in Limbo, the first circle of hell. The metaphor seems apt: a would-be home or small business buyer that cannot get required flood insurance, cannot purchase; she is stuck in a bureaucratic Limbo from which there is no escape but the grace of Congress. Ditto for the home or small business seller.

Is there reason to think otherwise? The various National Flood Insurance Acts forbid lenders from making loans on property located in a Special Flood Hazard Area where federal flood insurance is available. 42 U.S.C. § 4012(a). Since the lapse in NFIP authority means that federal flood insurance is not available, lenders are authorized to make loans on property in the flood plain, without requiring flood insurance first. The FDIC confirms this in its May 7, 2010 Financial Insitution Letter FIL-23-2010 (click here.) 

However, lenders are not released from the obligations under the Acts to make flood determinations, provide notices to borrowers and otherwise comply with the flood insurance regulations. The FDIC confirms that lenders "should evaluate safety-and-soundness and legal risk and prudently manage those risks during the lapse period." Lenders are also required to establish a program to ensure that borrowers obtain flood insurance when (as has happened) the program is reauthorized.

 

So, what is a prudent lender to do during the lapse period. The FDIC recommends: 1) postpone closing the loan (see Limbo above), 2) close the loan and require the borrower to obtain private flood insurance (which, if such existed at favorable rates, would demonstrate the NFIP is unnecessary), and 3) make the loan without requiring the borrower to apply for flood insurance. But that is a Catch-22 as well. As the FDIC points out, "Each lender remains responsible for protecting its collateral from risk in a manner appropriate to the circumstances ...." If the property is in a SFHA, a loan is given and the property is destroyed by flood, what regulator will recognize that as a prudent lending practice "appropriate to the circumstances"?

So, even if lenders may lend when the NFIP lapses, it seems evident that they will not. As we have written before, the NFIP has numerous issues (premiums that do not match risk, billion dollar deficits, lack of penetration into the populations at risk). Serial lapses of authority and serial reauthorization simply compound these problems.

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