Federal Laws That Cover Force-Placed (Lender-Placed) Insurance

In the past, it wasn't uncommon for a mortgage servicer to wrongfully impose expensive insurance coverage that protected the lender's, but not the homeowner's, interest and charge the homeowner for it. This kind of insurance is called "force-placed insurance" or "lender-placed insurance." But now, a federal law imposes restrictions on when and how servicers may purchase force-placed insurance on your behalf.

As of early 2014, a servicer can't buy force-placed insurance unless there is a reasonable basis to believe that the borrower has failed to maintain insurance coverage in accordance with the requirements of the loan documents. In addition, homeowners are entitled to receive certain notices before the servicer purchases the force-placed insurance policy.

What's a Mortgage Servicer?

A mortgage servicer, or "loan servicer," is the company that collects monthly payments from the borrower. The servicer also:

• keeps track of the loan account balance on behalf of the owner of the loan (the lender or the subsequent owner, called an "investor")
• manages the escrow account
• handles loss mitigation requests, and
• pursues foreclosure in the case of a defaulted loan.

What's Force-Placed Insurance?

Most mortgages and deeds of trust require that the homeowner maintain adequate insurance on the home so that the lender’s interest is protected in case of fire or other casualty. This type of insurance also covers the loss of your personal property if stolen, damaged, or destroyed.

If you let your homeowners' insurance coverage lapse, assuming you don't have an escrow account, the servicer can purchase insurance coverage at your expense, which is called force-placed or lender-placed insurance. This type of policy doesn't cover your personal belongings.

Force-placed insurance policies tend to be costly because there is uncertainty about what might happen to the home if the borrower isn't keeping up with the bills.

Federal Law and Force-Placed Insurance

Under federal law, the servicer must reasonably believe that the borrower has failed to maintain insurance coverage on the home before purchasing a force-placed insurance policy. For example, if the borrower’s insurance agent or provider contacts the servicer to inform it that the bill is overdue, this would provide a reasonable basis for the servicer to think that coverage isn't in place.

The servicer must then send two notices to the borrower prior to obtaining force-placed insurance. The notices must request that:

• the borrower obtain hazard insurance for the property, and
• the borrower submit proof of insurance, such as a copy of the insurance policy declaration page, an insurance certificate, or the policy, to the servicer.

Timing of the Required Notices

The servicer must send the first notice at least 45 days before purchasing a force-placed insurance policy. The servicer must then send a second notice—a reminder notice—no earlier than 30 days after the first notice and at least 15 days before charging the borrower for force-placed insurance coverage. This notice must include the cost of the force-placed insurance or a reasonable estimate of the cost. (12 C.F.R. § 1024.37).

If the Loan is Escrowed, the Servicer Must Generally Pay the Existing Policy

The servicer generally must keep an existing insurance policy in place if the borrower has an escrow account from which the servicer pays the insurance bill—even if the servicer needs to advance funds to the borrower’s escrow account to do this.

Exception. The servicer doesn't have to continue existing coverage, and can purchase a force-placed policy, if it has a reasonable basis to believe that:

• the borrower’s insurance is being canceled for reasons other than nonpayment, or
• the property is vacant. (12 C.F.R. § 1024.17).

What Happens if the Borrower Provides Proof of Insurance Coverage

If the borrower subsequently provides evidence that insurance coverage is in place, the servicer must:

• cancel the force-placed insurance within 15 days of receiving evidence of existing insurance, and
• refund any premiums charged for duplicate coverage to the borrower. (12 C.F.R. § 1024.37).