Compliance Alliance Q&A 9/15/2020

Q: Commercial Loan Scenario—Collateral is located in a SFHA, but is in a non-participating community. Because federal flood insurance would not be available, can the bank close the loan without flood insurance coverage?

A: If the property is in a non-participating community, then flood insurance is not required under the regulation. A private policy may still be required under the bank's internal policy for safety and soundness reasons, which is highly advisable to protect the bank’s collateral. 

For reference:
"Flood insurance, either issued through the NFIP or from a private insurance provider, is required for the term of the loan on buildings or mobile homes when an institution makes, increases, extends or renews a designated loan, meaning all three of the following factors are present: 
• The loan (commercial or consumer) is secured by improved real estate or a mobile home that is affixed to a permanent foundation (security property); 
• The property securing the loan is located or will be located in an SFHA as identified by FEMA; and 
• The community in which the property is located participates in the NFIP.
. . .
Nonparticipating Communities 
Although a lender may make, increase, extend, or renew a loan in a nonparticipating community, a lender is still required to determine whether the security property is located in an SFHA and if so, to notify the borrower. The lender must also notify the borrower that flood insurance coverage under the NFIP is not available because the community does not participate in the NFIP. If the nonparticipating community has been identified for at least one year as containing an SFHA, properties located in the community will not be eligible for federal disaster relief assistance in the event of a federally declared disaster. 
Because of the lack of NFIP flood insurance coverage and limited federal disaster assistance available, a lender should carefully evaluate the risk involved in making such a loan. A lender making a loan in a nonparticipating community may want to require the purchase of private flood insurance, if available. Also, a lender with significant lending in nonparticipating communities should establish procedures to ensure that such loans do not constitute an unacceptably large portion of the financial institution’s loan portfolio."
Page 6.2 - https://www.fdic.gov/regulations/compliance/manual/5/v-6.1.pdf

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