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Servicers understand and share the desire to adequately protect collateral against uninsured loss. However, many in the industry believe it is necessary to develop a reasonable alternative to investors’ current condominium insurance requirements. Fortunately, a viable solution is already available.

But first, let’s cover some background: Investor guidelines are established to ensure assets are serviced effectively, to minimize risk and investor exposure, and to create consistency in servicing standards. Nationwide best practices in the mortgage origination and servicing areas are created based on these guidelines. As the leading sources of residential mortgage credit in the U.S., requirements from Fannie Mae and Freddie Mac often become the standard upon which other investors develop their own guidelines.

Condominiums (or “condos” as they are more commonly referred to) present unique challenges relating to insurance coverage compliance. Fannie Mae’s and Freddie Mac’s condominium insurance tracking standards have proven to be difficult to comply with, on an operational level, based on the dependency of cooperation from homeowners associations (HOAs) and their commercial insurers, who are not legally obligated to comply with the investor’s requirements. As investors continue to evaluate their requirements, consideration should be given to more effective and efficient methods of ensuring that condos can be sufficiently protected without increasing servicer costs or borrower irritation.

These requirements include the Fannie Mae Servicing Guide Announcement SVC-2011-23 (Condominium Insurance Requirements), which states, “The servicer must obtain the insurance policy as well as all of the necessary schedules, endorsements, statement of values, or other associated documents to appropriately evaluate the insurance coverage.”

“Annually, or at the time of policy renewal, the servicer must confirm the insurance coverage provided under the policy remains in force for units covered and continues to meet the [Fannie Mae] requirements,” it states. The amount of insurance coverage must equal the total replacement cost of the building, including the value of each condominium unit. The policy, in the form of an association policy or a unit owner policy (commonly referred to as an HO-6 policy), must “cover fixtures, equipment, and replacement of improvements and betterment coverage to cover any improvements that have been made inside the individual unit.” This places the burden on the mortgage servicer to obtain and review full copies of the HOA master policies - and, in many cases, the HO-6 policy.

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The problem of obtaining policies

Considering that the policy providers are not legally obligated to provide this information, it is nearly impossible to obtain the HOA master policy from the insurance agent and the HO-6 policy from the borrower and then review its terms and conditions to verify that the coverage complies with the investor’s condominium insurance requirements. Servicers are often unable to obtain the HOA master policies because the borrower or servicer is not listed as a beneficiary on the master policy. In many cases, insurance agents and carriers refuse to provide a full copy to a person who is not named on the policy. In the best situation, the servicer may only receive an evidence of insurance form, which rarely provides enough information to verify if the coverage complies with all investor requirements.

Various pilot programs where agents or carriers were requested to provide copies of HOA master policies have proven unsuccessful, resulting in servicers’ being unable to demonstrate compliance with their investor’s condominium insurance requirements. Because the servicer has not obtained a copy of the HOA master policy, it must continue to send additional letters to borrowers requesting that they provide evidence that acceptable insurance is in force, in order to avoid the servicer’s obtaining lender-placed condominium insurance.

Neither borrowers nor servicers are direct beneficiaries of an HOA master policy and, therefore, are not named or copied on the policies. The servicer is dependent on the insurance agent’s cooperation to provide the required documentation of the condominium insurance coverage. Many agents feel no obligation to provide this documentation to servicers - unlike policies for residential properties, where the borrowers and servicers are the named beneficiaries.

In one pilot program, approximately 6,000 letters were issued to condominium unit owners when the servicer was unable to obtain a copy of the HOA master policy. Of these 6,000 letters, full HOA master policies were received for only 129, or about 2.2%, while certificates of insurance - which often did not provide adequate information to verify the insurance requirements - were received for only 570, or 9.5%. A large number of letters were received from insurance agents declining to provide the requested documents, indicating that they did not have an obligation to do so or that the cost of providing a full HOA master policy was prohibitive. In most instances, no responses were received.

 

Yet another challenge

As difficult as it is to obtain the HOA master policy, simply obtaining the policy does not satisfy the investor’s insurance requirements. The servicer must review the policy documents to determine if adequate coverage for each unit is provided by the HOA master policy. Determining if the policy provides adequate coverage requires calculation of the per-unit-coverage amount. Certificates of insurance and ACORD forms, often received as evidence of insurance, do not always provide the level of detail necessary to calculate the unit coverage. Even when an HOA master policy is received, these documents are not standardized and vary widely, making it difficult to determine if the coverage and policy terms and conditions comply with requirements.

 

A cause of borrower irritation

Continuing to send letters to borrowers for information they are often unable to obtain causes them aggravation and a bad customer experience. Unlike confirmation of condo flood insurance coverage, generally based on standardized policy forms, condominium hazard insurance policy forms are not standardized, and confirming compliance with “fixtures and equipment and betterments and improvements” requirements is often difficult, if not impossible. Experience has demonstrated that many unit owners do not understand these requirements and will simply ignore requests for information because they believe it’s the association’s responsibility.

When borrowers can provide verification of coverage, they may not be able to obtain it within the investor-required time period. These delays are caused by confusion on the part of the unit owner, by failure of the HOA to respond timely and, often, by uncooperative insurance agents or carriers that may require longer periods for the issuance of new or renewal HOA master policies.

 

The difficulty of determining replacement cost

It can be very difficult for the loan originator or servicer to determine if the HOA master policy documentation it receives includes coverage for individual unit “fixtures, equipment and replacement of improvements and betterments.” Upgrades and changes to the unit may not be discernible after the model units are sold and time has elapsed. This can make replacement cost coverage a guessing game, seeing as the HOA master policies do not indicate values based on the individual unit. Determinations of individual unit values may be based on simple averages and may not accurately reflect the true value of the individual unit. Without knowing the value of the individual unit, the servicer cannot ensure absolute protection of each unit’s replacement value, leading to increased investor exposure.

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Adequate unit coverage requirements periodically change and are often difficult to determine. In 2008, Fannie Mae published guidelines [Ann. 08-34: Project Eligibility Review Service and Changes to Condominium and Cooperative Project Policies (12/16/08)] requiring that an HO-6 unit owner policy “... must provide coverage in an amount that is no less than 20 percent of the condominium unit’s appraised value.” Servicers expressed concern that this method may not provide sufficient coverage and that it was not always equitable. Appraised values reflect many things other than replacement costs, such as the unit’s location, elevation, views, or proximity to water or golf courses, for example, that may not have a true impact on the individual unit’s replacement cost in the event of a loss.

Requirements for condo unit coverage were updated in 2011 (Fannie Mae SVC-2011-23) for new condominium loans applied for on Jan. 1, 2012, or later. These guidelines indicated that the HO-6 must provide “coverage, as determined by the insurer that is sufficient to repair the condominium unit to at least its condition prior to a loss claim event.” This essentially means that the servicer can rely upon the insurer to determine the adequate amount of insurance coverage for the unit. It also means that the servicer may not always be able to confirm that adequate coverage has been obtained.

 

The solution

Servicers can now rely upon a more effective and efficient protection option when HOA master policies cannot be obtained. Servicers may purchase blanket condominium policies to protect against uninsured loss to condominium units within their servicing portfolio. Blanket condo coverage is available through top-tier, highly capitalized insurance providers that extend coverage to protect against uninsured loss when there is no HOA master policy or when the coverage is inadequate to protect the individual unit.

The protection afforded under comprehensive and well-constructed blanket condo coverage provides servicers and investors significant protection at a substantially lower cost and with less customer irritation than does the continued reliance on lender-placed condo insurance policies. Compliance with current investor guidelines for condominium insurance often diverts significant servicer staff and resources (technology changes, cash advances, etc.) to enforce a requirement that proves a minimal benefit at best and results in increased servicing costs and customer irritation. The protection afforded through blanket condo coverage alleviates these issues while providing sufficient protection to servicers, borrowers and investors.

When selecting blanket condo coverage, servicers should ensure that it provides at least the following benefits:

Given the many competing priorities for resources within a mortgage servicing organization, the industry hopes investors will agree that blanket condo coverage is a viable and compliant solution to protect against uninsured condo losses. Servicers and investors continue to discuss the viability of this option, and there is optimism that investors will soon accept this alternative solution. In the meantime, servicers are encouraged to voice their support and advance the merits of this necessary solution.

 

Robert Shekell is senior vice president of relationship management, industry relations and marketing at QBE Financial Institution Risk Services Inc. He can be reached at robert.shekell@us.qbe.com.

Insurance

Tracking Hazard Insurance For Condominiums

By Robert Shekell

It is no small task to obtain an HOA master policy to verify compliance with Fannie Mae’s Condominium Insurance Requirements - so what can servicers do?

 

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