Fannie’s New Homeowner’s Insurance Requirement for Condo Owners

Fannie Mae has just announced a new rule that is important to anyone
who owns a condominium, townhome, or a unit in a Planned Unit
Development (PUD). In the case of a single family detached residence,
your basic insurance policy covers everything, but that’s not true in
the case of a condos and similar properties.  

There are three
classes of assets in any home. The first is the exterior structural
components, i.e. the walls and roof. Homeowners Associations (HOAs)
cover this part of the property with their master insurance policy.
Generally all state laws require an association to have only a “bare
walls” policy. More on what this means later.

The second class
of assets includes all of your personal property including furniture,
art, books, clothing, and other personal possessions. You probably
already have this kind of policy.

The third class does not
generally occur for people. This class of asset includes all the
interior items that are still attached to the home. This includes
plumbing fixtures, cabinets, interior doors, kitchen appliances,
furnace, light fixtures, wall coverings, carpet or wood or stone
flooring, and everything in the bathrooms.  

It is possible that
assets in this third class might have slipped through the cracks as you
were considering coverage. You might have thought that the
Association’s policy included coverage for these items, and, indeed,
some associations do, but many more do not. Some personal property
policies also include some coverage, but it might be minimal.

In
the event of a total loss of your home due to fire, the Association’s
policy would re-build the structure but leave you with “bare walls,” as
in an empty shell. If you had that minimal coverage on your personal
insurance policy, it would scarcely pay for rebuilding the interior of
your home the way it is now, the way you like it.

Fannie Mae
and Freddie Mac have finally realized this gap in coverage and have
moved to close it. In typical government fashion, this rule seems to
have been made without consulting either lenders or the insurance
industry. Let me see, how can I say this nicely? Oh, I can’t – it is
stupid. Why?

The new requirement is that the borrower must
provide what is known as an HO-6 policy, which includes “walls in”
coverage. That’s okay, but here’s the stupid part. Fannie and Freddie
require coverage equal to 20 percent of the appraised value of the
home. It should have been written to include 20 percent of the value of
the improvements. As written, you have to pay to insure 20 percent of
the value of the land that is included in the total appraised value.

In
a desirable area, the land is likely to be 50 percent of the total
value of your home, so 20 percent of the appraised value is over twice
what 20 percent of the value of just the improvements is. This means
you have to pay for double the actual coverage you need. An owner of a
$1,000,000 unit would be required to pay for $200,000 of coverage which
might be far in excess of what the actual replacement cost is likely to
be.  

Finally, this requirement conflicts with state laws that
forbid lenders from requiring more insurance than is actually indicated
as the realistic insurable value. In this case, state law says that
owners can’t be forced to buy “excess” coverage, but a lender isn’t
going to fund your loan without it. Talk about a Catch-22!

Currently
this applies only to new loans, but as sure as the sky is blue, you can
be sure that Fannie and Freddie are going to tell loan servicers to
start making sure that each property for loans they service has this
same coverage.

I hope that Fannie and Freddie will change
their policy to something more realistic, so stay tuned. In the
meantime, if you live in a condo or PUD, take this opportunity to get
your master policy and sit down with your insurance agent to make sure
your personal property assures that you are adequately insured. 

Randy Johnson – Author of How to Save Thousands of Dollars on your Home Mortgage and Savvy Borrower
articles, Randy is a mortgage broker who has financed over $1 billion
in properties. He writes about home buying and real estate finance
topics for CreditBloggers.com.

Tagged as: condos, Fannie Mae, homeowners insurance, new homeowners insurance requirements, Randy Johnson

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