Flood Insurance Premiums: Proceed with Caution

 May 07, 2014

Flood insurance is required for federally backed mortgage loans for structures located within a floodplain (100-year or regional floodplain), also referred to as the Special Flood Hazard Area (SFHA). Flood insurance can be purchased by any property owner or renter in a community participating in the National Flood Insurance Program (NFIP), including over 500 communities in Wisconsin.

In 2012, the Biggert-Waters Flood Insurance Reform Act made significant reforms to make the NFIP self-sustainable and extended the program for five years. Biggert-Waters removed the flood insurance premium subsidies that had been paid by the Federal Emergency Management Agency (FEMA) for many years, and raised the rates for certain classes of properties to reflect the true actuarial flood risk. As a result, some property owners in SFHAs experienced staggering premium increases triggered when flood maps were revised, a policy lapsed or the property was sold.

Homeowner Flood Insurance Affordability Act

On March 21, 2014, President Obama signed the Homeowner Flood Insurance Affordability Act, which amends Biggert-Waters. The amendments: 

  • Restore the original intent of Biggert-Waters to gradually phase out premium subsidies. There will be no more premium increases triggered by a property sale or a remapping; any increases will occur when the flood insurance policy is renewed.¬†
  • Allow buyers to assume the seller's current premium rate, which transfers with the property. When the policy is renewed, any premium increase is limited to no more than 18 percent annually for primary residences and 25 percent for second homes and commercial properties. Note that these are the maximum increases ‚ÄĒ not the rate that every property owner will see.
  • Restore grandfathering so property owners who build and maintain to code in one flood zone aren‚Äôt rated in higher-cost zones simply because FEMA maps change.¬†
  • Create a flood insurance advocate to help homeowners challenge faulty rates or maps.
  • Account for flood-proofing or other alternatives to property elevation and provide for higher deductibles up to $10,000.
  • Reduce NFIP borrowing by placing a $25 assessment on all NFIP policies for primary residences. All other policies will include a $250 surcharge. These fees will be included on all policies until all subsidies are eliminated.¬†

Although there is no doubt that the changes made by the Homeowner Flood Insurance Affordability Act are advantageous, these changes won't be implemented for many months. Within eight months of enactment, FEMA is required to issue new rate tables and instructions to insurance companies. The insurance companies will then have six to eight months to carry out FEMA’s instructions. Buyers will be able to assume the seller’s current rate while FEMA works on the rate changes and refunds. The best guess is that any premium increases will simply appear in the first renewal notice after this has been accomplished. There will be refunds of any premiums already paid by property owners in excess of rates as capped under the amendments, but not until FEMA issues the new rate tables in order to calculate the amount of the excess. 

Transaction impacts

What does this mean for real estate transactions in Wisconsin? Everyone should tread very cautiously. Each property and each deal is different.

Contingencies for the buyer to investigate flood insurance premiums

In a recent transaction, the accepted offer was conditioned upon the buyer being able to get flood insurance for no more than $900 per year. The buyer was given a quote of $407 per year, so the seller believed everything was good to go. But a computation was done: assuming a $475 premium and a 25 percent annual increase with a projected premium over the $900 in Year 5, and a projected premium of $7,919 in Year 18. The buyer was a single woman on a tight budget who could not afford the $3,883 per year for flood insurance premiums, which was the quoted actuarial premium with a $1,000 deductible.

Once the Flood Insurance Affordability Act kicks in, any annual increases for a primary residence will be limited to 18 percent. Accordingly the flood insurance premiums for this buyer would increase more slowly than illustrated in the projections although the actuarial rate would inevitably be reached at some point.
It may be helpful for the buyer ‚ÄĒ and all buyers ‚ÄĒ to discuss the situation with one or more insurance agents to confirm what the premiums would be, as best as they can.¬†

REALTOR¬ģ practice tip: REALTORS¬ģ may wish to take note that language in the WRA Addendum A (lines 111-112) and similar addenda indicates that the buyer agrees to pay the cost of flood insurance. REALTORS¬ģ may be prudent to include a contingency in offers where the property is in a flood plain if there is a maximum annual amount that a buyer can pay for flood insurance. One example of that language: ‚ÄúThis Offer is contingent upon Buyer obtaining, no later than ___ days before closing, an insurance binder, certificate of insurance or other insurance company documentation or correspondence showing that Buyer's annual premium for flood insurance for Buyer's initial year of ownership after closing shall not exceed $____/ that Buyer's annual premium will not exceed $____ after ____ years/ that the actuarial annual premium cost is computed to be no more than $_____ [STRIKE AND COMPLETE AS APPLICABLE]. This contingency shall be deemed satisfied unless Buyer, no later than ____ days before closing, delivers to Seller written notice indicating that this contingency has not been satisfied and documentation of the flood insurance premiums available to Buyer. If this contingency is not satisfied, Buyer may terminate this Offer by delivering written notice of termination to Seller.‚ÄĚ

Unfortunately there is not much certainty, and the information that an insurer can provide may change if FEMA changes rate tables or the flood maps. An insurer cannot guarantee that information that is a reasonable estimate today will not change down the road.

What must sellers and REALTORS¬ģ disclose?¬†

Most of the property condition reports and offers to purchase ask the seller to disclose if the seller is aware that the property is in a floodplain. The broker may disclose that the property is in the SFHA according to the local zoning official or that the seller is presently required to carry flood insurance ‚ÄĒ as a material adverse fact (or information suggesting the possibility of a material adverse fact). The fact that the flood insurance premiums are expected to increase for many properties is an additional aspect of such disclosures given the impact of the recent flood insurance legislation. The broker can only disclose what the broker knows and should be careful to qualify any statements and attribute the source unless the broker has personal knowledge.¬†

Interpreting flood maps is best done by experts. The parties should be referred to zoning officials, insurance agents and other appropriate experts for assistance. Note that licensees are not required to investigate whether a property is in a flood zone or determine the applicable flood insurance premiums.

REALTOR¬ģ practice tip: REALTORS¬ģ may use the sample material adverse fact disclosure letter on page 26 of the October 2009 Legal Update, ‚ÄúDiligent Disclosure,‚ÄĚ at www.wra.org/LU0910 or on zipForm¬†(WRA-DMAF) for this purpose.¬†

REALTOR¬ģ practice tip: REALTORS¬ģ may wish to take advantage of the NAR Legal Guidance: Disclosure of Flood Insurance Requirements, Rates, and Rate Increases by Brokers and Agents (Updated April 2, 2014) at www.ksefocus.com/billdatabase/clientfiles/172/4/1816.pdf. NAR's Sample Flood Insurance Disclosure Statement provides: ‚ÄúYour mortgage lender [may] [will] require you to purchase flood insurance in connection with your purchase of this property. The National Flood Insurance Program provides for the availability of flood insurance and establishes flood insurance policy premiums based on the risk of flooding in the area where properties are located. Recent changes to federal law (The Biggert-Waters Flood Insurance Reform Act of 2012 and the Homeowner Flood Insurance Affordability Act of 2014, in particular) will result in changes to flood insurance premiums that are likely to be higher, and in the future may be substantially higher, than premiums paid for flood insurance prior to or at the time of sale of the property. As a result, purchasers of property should not rely on the premiums paid for flood insurance on this property previously as an indication of the premiums that will apply after completion of the purchase. In considering purchase of this property, you should consult with one or more carriers of flood insurance for a better understanding of flood insurance coverage, current and anticipated future flood insurance premiums, whether the prior owner‚Äôs policy may be assumed by a subsequent purchaser of the property, and other matters related to the purchase of flood insurance for the property. You may also wish to contact the Federal Emergency Management Agency (FEMA) for more information about flood insurance as it relates to this property.‚ÄĚ

Flood insurance resources

Debbi Conrad is Senior Attorney and Director of Legal Affairs for the WRA.
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