Flood Zone Searches: May a Lender Rely on a Previous Determination?
Picture this – your bank has an existing revolving line of credit secured by improved real estate, and the borrower and bank have agreed to increase the principal amount of the line of credit. The bank’s outside legal counsel documented and closed the original loan transaction, so you call counsel to discuss the amendment to increase the principal amount. The topic turns to due diligence:
You: “We will order the flood searches. You order the date down endorsement to the title insurance policy.”
Counsel: “Okay. Regarding flood searches, I thought you did those at the time of the original loan.”
You: “The flood searches have to be done every time there is a credit action.”
You end the conversation surprised that counsel didn’t know the bank needed an updated flood search. And, based on the authors’ experience, counsel is now wondering why he didn’t know the bank had to obtain an updated flood search.
Sound familiar to you? It does to the authors of this article, and led the authors to research whether a federally regulated lending institution always has to order a new flood zone search before making a credit action on improved real estate. Fortunately, the law allows lenders to rely on prior flood zone determinations when certain conditions are met. This article will first provide a brief background of the requirements for flood insurance and then indicate when a lender may rely on a previous flood zone determination.
If land is in a designated flood hazard area, and federal flood insurance is available, the National Flood Insurance Reform Act of 1994 (the “Reform Act”) prohibits federally-regulated lenders from making a credit action on improved real estate or a mobile home unless the security is covered by a minimum amount of flood insurance. In addition to mandatory coverage, the Reform Act imposes other strict requirements on lenders making loans in areas determined to be flood prone. Generally, there are determination requirements (to determine if a building or a mobile home is in a special hazard flood area), notice requirements (to notify borrowers of an adverse determination), escrow requirements (for the premiums and fees related to flood insurance), and the forced placement of coverage (if a building or mobile home is not adequately insured).
Regarding the determination requirements, the Reform Act places primary responsibility on the lender to determine whether land is in an area designated as a flood zone. A lender making a loan secured by improved real estate or a mobile home, therefore, must first determine whether the property is located in a flood hazard area. But must a lender make a flood zone determination before every credit action? If the lender made an initial flood zone determination before making the initial loan, does every subsequent increase, extension, renewal, or purchase of the loan require new flood searches?
The answers to the previous two questions are no, if the prior determination meets certain conditions. Any person increasing, extending, renewing, or purchasing a loan secured by improved real estate or a mobile home may rely on a previous flood zone determination if (1) the determination was made within the last seven years of the date of the transaction, and (2) the basis for the prior determination was recorded on the standard flood hazard determination form developed by FEMA. A lender is not liable for any errors in the prior determination if it meets these two requirements. Reliance is permissible regardless of whether the secured property is located in an area having special flood hazards.
There are exceptions, however, when reliance on a prior determination is impermissible, even if the above requirements are met. Reliance on a prior determination is impermissible if (1) FEMA revised its flood zone maps after the initial determination and the revised maps show the building or mobile home is now located in an area having special flood hazards, or (2) the lender contacts FEMA and discovers map revisions or updates affecting the secured property have been made after the prior determination.
In addition, a lender making a new loan cannot rely on a prior flood zone determination. Instead, reliance on a prior flood zone determination is only acceptable when the lender is increasing, extending, renewing, or purchasing an existing loan and (1) the prior flood zone determination is not more than seven years old and (2) the prior flood zone determination was recorded on FEMA’s standard form. Recent guidance by the FDIC indicates that the federal agencies that regulate lenders will treat subsequent transactions by the same institution regarding the same property as renewals. Subsequent transactions that will be treated as renewals include assumptions, refinancings, and second lien loans.
So now what? When your lending institution makes an initial loan secured by improved real property, make sure it obtains a flood zone determination recorded on FEMA’s standard form. If your lending institution is making a credit action on an existing loan secured by the same improved real property and previously obtained a flood zone determination, check to see if the determination is no more than seven years old and was recorded on FEMA’s standard form.
If either of these two conditions are not met, then obtain a flood zone determination on FEMA’s standard form. If both conditions are met, then obtain the regulatory Flood Insurance Rate Map (“FIRM”) from FEMA’s Map Services Center. You can do so online at www.msc.fema.gov. The FIRM will show when the map was last revised and the areas having special flood hazards.
If FEMA revised the FIRM after the prior flood zone determination, and the FIRM shows the building or mobile home is now located in a special flood hazard area, then obtain a flood zone determination on FEMA’s standard form. If the FIRM was not revised since the prior determination, contact FEMA to verify when the most recent map revisions or updates affecting the property occurred. If the map revisions or updates occurred after the prior flood zone determination, then obtain a new flood zone determination on FEMA’s standard form. If there have been no recent map revisions or updates since the prior determination, your lending institution may forego ordering flood searches.