How Well Is Your Credit Union Protected From Mortgage Missteps?
The answer to mortgage lender risks is Mortgage Impairment (MI) coverage.
Inevitably, borrower oversights and operational gaps can lead to lender risk. A homeowner on the coast inadvertently fails to secure flood or wind coverage before a major hurricane hits. A commercial borrower cancels their insurance policy days before their warehouse burns to the ground in a fire. A flood destroys collateral that was not in a special flood hazard area. The worst part? Your credit union holds the mortgage on all these properties.
How do you ensure your borrower insurance tracking operations and certain origination activities are protected against mistakes? Or, that the value of your loan is protected when your customer doesn’t secure the right coverage? The answer to mortgage lender risks is Mortgage Impairment (MI) coverage.
To minimize the risk associated with originating, servicing and selling, MI insurance stands behind credit unions and other financial institutions to protect the lender’s interest in certain situations. Knowing which type of MI coverage to secure and what’s best for the portfolio of mortgages your institution holds or services is where it gets tricky. Consider the following frequently asked questions:
1. What’s the difference between narrow form and broad form MI coverage?
MI, otherwise known as mortgage errors and omissions (E&O) coverage, is available in two forms. Narrow Form coverage is the most basic form of mortgage E&O. It’s what financial institutions are required to have in order to comply with secondary market regulations and general safety and soundness, and will cover a limited set of situations.
Broad Form is enhanced mortgage E&O coverage. Broad Form coverage is effectively two types of insurance married together:
- Extra E&O: Covering lender’s loss for servicing-related operations.
- Balance of perils: Covering a lender’s loss from perils not required of a borrower (that are not otherwise excluded from an MI policy). For example, a house destroyed by an earthquake when the borrower was not required to carry earthquake insurance or a flood outside of a SFHA.
Secondary market MI requirements are based on a sliding scale that directly correlates to the size of a credit union’s portfolio of mortgages. Remember that these requirements are a bare minimum, and may not provide adequate coverage for a big claim or multiple claims in a single calendar year.
While local, community credit unions will sometimes carry Narrow Form coverage, limits may be inadequate when it comes to backing the complete scope of a credit union’s collateral properties. For financial institutions concerned about risk management, a Broad Form policy with one or both endorsements will provide the most complete coverage.
2. When choosing MI coverage, should you buy stand-alone or packaged?
Stand-alone MI coverage, in Narrow or Broad Form, can be independently negotiated to meet the needs of any credit union, including limits and endorsements, as well as desired premiums.
Additionally, lenders will want to consider a packaged MI policy, which comes in two forms: A Federal Institution Bond that includes robbery and theft coverage (also known as a mortgage banker’s bond), or a bundled property and casualty policy. A packaged policy typically features Narrow Form MI coverage, and therefore policy limits may be compromised if there is a big claim on one of the other polices in the package.
3. What’s the best option for your credit union?
When choosing which MI coverage is best for your credit union, base the answer on a thorough analysis of your portfolio, systemic risk, origination/servicing operations and risk tolerance. Working with a third-party, impartial broker to analyze your options will get you to the right policy, and provide your risk manager with a road map of how the decision was made and why. This analysis will serve you beyond your institution’s initial purchase, as a backup should the risk manager be called upon to support the credit union’s ultimate decision.
In today’s world, unfortunately, it’s no longer a question of “if,” but “when.” You don’t want your credit union to be left high and dry in the event of a mortgage misstep. The most prepared financial institutions are those that have thought through a number of potential scenarios and taken the necessary precautions now – not when it’s already too late.
Chris Riley is SVP for Hub Financial Services. He can be reached at 908-596-0241 or christopher.riley@hubinternational.com.