Daily Development for Monday, April 19, 2004
by: Patrick A. Randolph, Jr.
Elmer F. Pierson Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin Kansas City, Missouri dirt@umkc.edu
MORTGAGES; INSURANCE; FORCED PLACEMENT: Under a clause permitting mortgagee to
require and to “force place” insurance in such forms and amounts as it may
require, mortgagee can require flood insurance in the amount of the other hazard
insurance coverage held by the borrower even though this amount vastly exceeds
the amount owed under the mortgage.
Custer v. Homeside Lending, Inc., 858 So. 2d 233 (Ala. 2003)
Mortgagors had an old purchase money mortgage that had an initial principle
amount of around $18,000 and had been paid down to around $2000. They had their
property insured by hazard insurance for $79,000, but held no flood insurance.
Indeed, their original mortgage had not required flood insurance, but did
require that the mortgagor “will keep the improvements now existing or hereafter
erected on the mortgage property insured as may be required from time to time by
the Mortgagee against los by fire and other hazards, casualties and
contingencies in such amounts and for such periods as may be required by the
Mortgagee.
The National Flood Insurance Act requires federal regulators to impose upon
regulated lenders the requirement that the lenders put in their mortgage
agreements provisions requiring flood insurance on mortgaged properties that lie
within a federally identified flood zone. In addition, the Act permits lenders
to notify borrowers that their property is within federally identified flood
hazard zones and to force place insurance if the mortgagor fails to acquire such
insurance.
It is not clear from the court’s statement of facts whether the borrowers
property was subject to the requirements of the NFIA when the mortgage was
originally written. Later, however, the mortgage passed into the hands of
Homeside, which did an audit that determined that the property was in a
federally identified flood hazard zone. It sent letters to the mortgagee asking
that they arrange for their own flood insurance in the amount of the insurance
that they had obtained for other hazards - around $79,000. It was Homeside’s
practice to use this figure if it was higher than the loan balance, reflecting a
“assumption that a borrower would want the same amount of protection against
floods as against other hazards” even if the loan balance was substantially
less.
When the borrower failed to obtain the required insurance, Homeside force placed
the insurance, charging an additional fee for doing this. The total cost of such
forced placement (including the insurance premium) was $717 for a year. At the
time the balance on the loan was less than $2000. The borrowers elected to pay
off the loan, but still were required to pay the pro rata portion of the annual
premium plus the loan charge. They instituted this action against the lender as
a class action, alleging breach of contract, unjust enrichment, breach of
implied duty of good faith and fair dealing, fraud by suppression, breach of a
duty to third party beneficiaries and breach of an implied contract.
The trial court granted summary judgment and denied class certification.
Upon appeal from the summary judgment - held: Affirmed. The Alabama Supreme
Court concluded that the lender was free to force place more insurance than the
amount of the loan, under both federal law and Alabama contract law.
The plaintiffs cited a 1999 Louisiana case, Norris v. Union Planters Bank, 739
So. 2d 869 (A. App. 1999), which apparently held that the provision of the NFIA
permitting the lender to force place flood insurance for the amount of the
outstanding balance of the loan imposed not only a minimum authorization but
also a cap on the amount of flood insurance that could be required. The Alabama
court, noting that this was a matter of first impression in Alabama, rejected
this authority and concluded instead that the NFIA was a minimum authorization
and did not limit a lender from charging additional amounts and force placing
that insurance if the borrower failed to pay it. Apparently the court was of the
view that this would be possible under the “force placement” provisions of the
NFIA even if there were no force placement or insurance requirement in the loan
itself. It noted that the purpose of the loan was to protect federal emergency
response funds from being drained by constant u ninsured flooding claims in
areas known to be flood prone.
In addition, the Alabama court concluded that the specific language of the
mortgage in this case was an independent basis for authorizing an insurance
requirement in excess of the amount of the loan. It cited Alabama authority to
the effect that if the mortgage agreement says that the mortgagee can require
insurance as it sees fit, that is how it is:
“Under the language of the mortgage [in the precedent case], the right of [the
mortgagee] to fix the amount of the insurance was absolutely discretionary at
any time. It had the right to determine, unilaterally, the amount of the
insurance and even had the right under the provisions of said mortgage to reduce
the coverage to zero.”
Despite this strong language, however, the precedent case dealt with a claim
that a mortgagee had failed to acquire enough insurance, not that it had
acquired too much. As to the claim that there was an overcharge, the court
addressed this only in connection with the mortgagor’s claim that there was a
“wagering contract,” - a form of insurance agreement invalid under Alabama law.
In response to this, the court noted that any insurance required in excess of
the insurable interest of the party obtaining the insurance might be invalid if
the party arranging the insurance got a pecuniary benefit. Here, however, the
court noted that the mortgagors would get the excess of any insurance proceeds
over the amount of the mortgagee’s claim, so that there was no pecuniary benefit
resulting from the proceeds.
Comment 1: The editor finds the court’s discussion of the theories and
authorities ultimately unsatisfying because it does not address the fundamental
notion that the language permitting the mortgagee to require insurance
necessarily had to be subject to some limit, and the logical limit would appear
to be the amount of the mortgagee’s risk, not the mortgagor’s risk. As the
mortgagee would be the loss payee and an additional insured under a standard
mortgage clause, its complete interest was only in the amount of the outstanding
loan.
The only argument the editor could see contrary to this analysis would be that
the mortgagee’s insurance interest also included any post foreclosure period. At
that time, the mortgagee would be insured as owner. But, again, what is the
propriety of requiring the mortgagor to furnish such insurance coverage when the
mortgagee easily could arrange for its own?
Comment 2: Interestingly, no other case cites the Louisiana Union Planters
decision, although it would appear that this case is an invitation to the
“consumer advocates” to start up the ole’ class action machine. The Louisiana
Supreme Court did deny review in Union Planters.
The editor doesn’t like to use the concept of good faith and fair dealing here,
because he believes it adds little or nothing to the basic interpretive tools
courts have always used to interpret contracts that leave contractual discretion
in a party. It is normally said to be the intent that the party would use that
discretion “reasonably.” Why is the forced placement of insurance beyond that
necessary to protect the economic interest of the lender “reasonable?” Surely
the lender’s suggestion that this is probably what the borrower would want is
inadequate. But that’s all the court gives us.
Cite checking reveals no case that has cited this decision.
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