Effective December 21, 2022, the Federal Housing Administration (FHA) amended its regulation at 24 C.F.R. § 203.16a to allow FHA borrowers to purchase private flood insurance for properties located in Special Flood Hazard Areas. Previously, the FHA rule only permitted borrowers to purchase flood insurance policies issued through the National Flood Insurance Program (NFIP). The FHA amendment of the rule (Amended FHA Rule) comes nearly four years after the Board of Governors of the Federal Reserve System, the Farm Credit Administration, the Federal Deposit Insurance Corporation, the National Credit Union Administration, and the Office of the Comptroller of the Currency issued a final rule in February 2019 (Interagency Regulator Rule), implementing a portion of the Biggert-Waters Flood Insurance Reform Act of 2012 (Biggert-Waters), mandating acceptance of private flood insurance.
The Interagency Regulator Rule, which went into effect on July 1, 2019, requires regulated institutions to accept private flood insurance policies that meet the Biggert-Waters statutory definition of “private flood insurance” through four primary means: (1) mandatory acceptance of private flood insurance; (2) mandatory acceptance of compliance aid; (3) discretionary acceptance of private flood insurance; and (4) flood coverage provided by mutual aid societies. The Amended FHA Rule differs from the Interagency Regulator Rule in a number of ways that can complicate compliance for regulated lenders who originate FHA loans.
First, the Amended FHA Rule does not follow the Interagency Regulator Rule requiring mandatory acceptance of private flood insurance. Rather, under the Amended FHA Rule, a lender may accept a private flood insurance policy so long as it meets certain criteria. Due to the variation between the Amended FHA Rule and the Interagency Regulator Rule, a lender may need to reject a private flood insurance policy under the Amended FHA Rule but would be mandated to accept that same private policy under the Interagency Regulator Rule. A regulated lender’s rejection of a private flood insurance policy that meets the statutory definition of “private flood insurance” could constitute an FDPA violation.
Second, the compliance aid language in the Amended FHA Rule is not the same as the compliance aid language in the Interagency Regulator Rule. Many private insurers had already adopted and implemented in their policy forms the Interagency Regulator Rule compliance aid language. It is unclear whether insurers will further amend their policy forms to include the Amended FHA Rule compliance aid language.
Third, and perhaps most significantly from an operational standpoint, the Amended FHA Rule does not allow for the discretionary acceptance of private flood insurance or the acceptance of private flood coverage provided by mutual aid societies. When the Interagency Regulator Rule went into effect, regulated lenders largely adopted discretionary acceptance criteria in lieu of performing the mandatory acceptance analysis, which effectively requires a side-by-side comparison of a private flood insurance policy to an NFIP policy. For FHA insured loans where a borrower presents a private flood insurance policy, however, regulated lenders may no longer rely on their discretionary acceptance criteria and must conduct the full private policy review under the Amended FHA Rule definition of “private flood insurance.”
Finally, for non-bank lenders who have not been reviewing private flood insurance policies over the past 42 months, the Amended FHA Rule requires the creation of wholly new policies and procedures regarding the review and acceptance of private flood insurance policies.