Industry Alert: Homeowners Insurance Policy Limits

Due to a number of inquiries recently received, the Wisconsin Department of Financial Institutions, Division of Banking ("DFI"), recently reviewed information regarding allowable policy limits for homeowners insurance as they pertain to pending mortgage loans.

Insurance agents have reported to the DFI that mortgage brokers and mortgage bankers are frequently asking them to raise a borrower's homeowners policy limit so that it equals the amount of a pending mortgage loan. The mortgage brokers and mortgage bankers making the requests believe that the loan will not be approved unless the value of the homeowners policy is greater than or equal to the loan amount. The Department contacted Fannie Mae and the State Office of the Commissioner of Insurance and found that a request of this nature is not necessary, nor is it in accordance with state law. DFI has cited Fannie Mae requirements because they are representative of many lenders' and investors' requirements. The following guidelines are applicable to loans delivered to Fannie Mae.

Fannie Mae Requirements

The Department received written confirmation that Fannie Mae does not require the homeowner's insurance policy amount to be equal to the loan amount. Fannie Mae's guidelines for determining the amount of hazard insurance coverage are set forth in the Fannie Mae Selling and Servicing Guides. For any first lien mortgage (excluding a reverse mortgage), required coverage should be equal to the lesser of:

1. 100% of the insurable value of the improvements, as established by the property insurer; or
2. the unpaid principal balance of the mortgage, as long as it equals the minimum amount (80% of the insurable value of the improvements) required to compensate for damage or loss on a replacement costs basis. If it does not, then the coverage that does provide the minimum required amount must be obtained.

Therefore, according to Fannie Mae, to determine the required amount of hazard insurance coverage for a loan delivered to Fannie Mae, Fannie Mae approved lenders are required to "compare the insurable value of the improvements, as established by the property insurer, to the unpaid principal balance of the loan. If the insurable value of the improvements is less than the unpaid principal balance, the insurable value will be the amount of the coverage required. If the unpaid principal balance of the mortgage is less than the insurable value of the improvements, the lender is required to calculate 80% of the insurable value of the improvements and compare the result to the unpaid principal balance. If the result of this calculation is equal to or less than the unpaid principal balance, then the unpaid principal balance will be the amount of the coverage required. If the result of this calculation is greater than the unpaid principal balance, the calculated figure will be the amount of coverage required."

Wisconsin Rules and Regulations

According to the State of Wisconsin, Office of the Commissioner of Insurance, an insurance agent is not allowed to arbitrarily raise the policy value so that it will equal the amount of a homeowner's pending mortgage loan. This Department would therefore object to any mortgage broker or mortgage banker asking or persuading a Wisconsin licensed insurance agent to arbitrarily raise the limit of a homeowners insurance policy to make it equal to a mortgage against the property, based on the following sections of the Wisconsin statutes:

1. According to s. 628.34(6), Wis. Stats., it is considered an unfair marketing practice for an insurance agent to "make any charge other than premiums and premium financing charges for the protection of property, as a condition for renewing, obtaining, renewing or continuing the financing of a purchase of the property or the lending of money on the security of an interest in the property." Therefore, it would be an unfair marketing practice to include land in insurance policy limits.
2. Further, s. 632.05(2), Wis. Stats., provides that "whenever any policy insures real property that is owned and occupied by the insured primarily as a dwelling and the property is wholly destroyed, without criminal fault on the part of the insured or the insured's assigns, the amount of the loss shall be taken conclusively to be the policy limit of the policy insuring the property."

The Department encourages any licensed mortgage broker, mortgage banker or loan originator to contact us at 608-261-7578 if any questions arise, or to contact your respective mortgage broker or mortgage banker association for clarification.