Most home mortgages obligate you to maintain a homeowner’s policy that names your bank as an “additional insured.” This requirement protects the asset that secures your loan: your property. In other words, the bank is willing to lend money, in part, because if you default it can take possession of the property. The bank wants to make sure the property is insured in case it is damaged by fire, windstorm and other risks.
You may not know that the same clause in the mortgage alsoprovides that, if your homeowner’s policy lapses for any reason – even accidental oversight – the bank can take out a policy in its own name only, and charge you for the premium. These policies are called “force-placed” policies. They do not cover your interest in the property or your possessions, and do not protect you against other claims for which you could be sued such as those by people injured on your property.
A “Force-Placed” Policy Will be More Costly Than Homeowner’s Insurance
Because these policies cover a more limited risk – the bank’s interest in the property – one would assume that they would be less expensive than the lapsed homeowner’s policy. In the vast majority of cases, however, that would not only be incorrect, but the limited “force-placed” policy could be anywhere from three to ten times more expensive that the homeowner’s policy which just lapsed. Furthermore, the homeowner often does not learn of the existence of this policy until the bank sends an invoice or escrow adjustment months later. By that time, several months of a staggeringly expensive policy will have been billed to their escrow account or added to the loan.
Explanations for These Unreasonable Costs
When questioned about the justification for these outrageous premiums, banks and insurance companies claim that, despite the limited risks covered by force-placed policies, they are more expensive because the homeowner “must” be irresponsible or in financial difficulties.
The real reasons for these exorbitant charges vary somewhat depending on the bank and the applicable insurance company but, in many cases, arise because of their close affiliations or exclusive arrangements. Although one would assume that the bank would try to get the least expensive policy available, the opposite is true for several reasons which can include:
- First, the bank knows that it will pass the cost on to the homeowner, so it has little motivation to “shop” for the best-available rate;
- The bank may have an “insurance agency” subsidiary who receives a payment from the insurance company based the issuing of the policy. In other words, a company related to the bank receives a payment, usually named a “commission,” based on the cost of the insurance. As a result, not only does the bank have no incentive to seek out the most economical policy but it has an incentive to generate a large commission for its related company;
- In addition, some banks have exclusive or near-exclusive relationships with insurance companies. They place virtually all of the force-placed policies with that insurance company who, in turn, pays the “commission” to the bank’s insurance subsidiary, although the insurance subsidiary does little or nothing to “earn” the commission because of the assumption that the policy will be placed with the insurer in question; and
- In some cases, the relationship between the bank and the insurance company is so “cozy,” that the bank “outsources” the administrative job of monitoring whether its borrowers have homeowners’ insurance to the insurance company. The insurance company has access to the bank’s mortgage records and, rather than wait for the bank to contact them for a policy, the insurance determines when lapses occur and issues the policies to the bank at the same time, or before, it informs the bank of the lapse.
Is What the Banks and Insurance Companies Do O.K.?
Wites & Rogers does not think so. A mortgage is a contract, and every contract includes an “implied covenant of good faith and fair dealing” which means that parties to a contract must perform their actual obligations treating the other side fairly. This is especially true when one party has the discretion to take actions that will affect the other party’s rights. In other words, although the banks are allowed to take out these force-placed policies, and charge the borrowers the cost, they must do so in good faith, and not in order to generate a profit for a related company or to outsource administrative functions (which should be paid for from bank’s earning from the mortgage payments).
Wites & Rogers believes that banks have an obligation to seek out force-placed policies on the open market, which will be closer to the rate of the homeowner’s policy that lapsed. In fact, in many cases, the bank could step in and pay the premium for the homeowner’s policy which would result in greater coverage for everyone involved at a much more beneficial cost.
In addition, in many cases, the amount charged to the homeowner for a force-placed policy is not the bank’s “real” cost of the policy because (a) its related company gets a “commission” based on the policy’s cost without doing much, if any, work, and (b) in cases where it “outsources” the monitoring function, it often receives these services for free, or for far less than it would cost them to handle the operations “in house.” Yet, Federal laws prevent banks from accepting any fee, kickback, or thing of value based to any agreement or understanding, oral or otherwise, for the referral of any business “incident to or a part of a real estate settlement service involving a federally related mortgage loan.”
If you have experienced your lender getting a force-placed policy, you should take a close look at the premium your bank assessed against you. Depending on your bank’s relationship with the insurer, and the facts of your situation, you may have the basis for a claim against your bank and the insurance company.
Authored by: Michele M. Desoer
