Why Is Flood Certification Needed for a Mortgage?
When you buy a home, it can sometimes seem like the inspections never end. The home inspection, the title inspection, the appraisal, possibly a survey … it may feel like your prospective home has been poked and prodded to death. And you along with it.
Then, as if it weren’t enough, your lender comes back with a request for flood certification. What are they asking for, and why?
What Is Flood Certification?
Flood certification is official documentation of the flood risk status of a piece of real estate, presented on a Standard Flood Hazard Determination Form (SFHDF) promulgated by the Federal Emergency Management Administration (FEMA).
Information included in a flood certification includes:
- The name and contact information of the lender (if there is one).
- Description of the collateral — i.e. the real estate.
- A determination of whether flood insurance is required.
- The amount of flood insurance required by the lender.
- The National Flood Insurance Program (NFIP) jurisdiction.
- NFIP data on the property, including its “map number” and effective date.
- The property’s flood-risk rating from FEMA.
- Availability of Federal flood insurance coverage for the property.
- Whether or not a Letter of Map Change (LOMC) has been submitted.
Click here to view a sample Flood Certification from SnapFlood
Homeowners Insurance Doesn’t Cover Flood Damage
If the flood certification indicates an unacceptable risk of flooding for the property, the lender may require the homeowner to purchase flood insurance. Even if the lender doesn’t require it, the flood certification may disquiet you enough that you want to get it anyway.
So what is flood insurance, and why might a lender require it?
Almost every lender requires you to carry homeowner’s insurance. However, unbeknownst to most homeowners, basic insurance doesn’t cover everything that could possibly happen to a home.
Flooding is a big omission in the coverage umbrella of most homeowner’s policies. If water enters your home from above — say as a result of a leaky roof and a rainstorm — your homeowner’s policy should cover the damage.
However, if water enters your house at ground level — as the result of an overflowed river or sewer, as the result of a downspout that gets clogged or overfilled and pools beside your house — homeowner’s insurance usually does not cover it.
Why is this such a big omission? As mentioned, flooding is the most common natural disaster that damages property — more common than many other disasters that homeowner’s insurance does cover.
Flood insurance was popularized by the National Flood Insurance Program (NFIP), an arm of the Federal government under FEMA responsible for making public insurance plans available to consumers. (Medicare is another example of public insurance.)
Private insurers also offer flood insurance policies, which can be useful for various purposes. For example, public NFIP flood insurance is capped at coverage limits of $250,000 for the structure damage and $100,000 for personal property damage. If you need more coverage, private flood insurance may be your best option.
Flood Damage Can Destroy the Lender’s Collateral
So that’s what flood insurance is. Here’s why your lender might require it based on the flood certification.
Flooding is not only one of the most common natural disasters to affect property, it is also a costly one. According to FEMA, even one inch of floodwater can cost as much as $25,000 to fix — and that’s just the structure. It doesn’t even include personal property that could be damaged by flood water. If flooding is severe, rehabilitating the property could easily balloon into a six-figure expense.
What does it mean to a homeowner if they find themselves stuck with this bill and no insurance payout to cover it?
In the most dire circumstances, the homeowner may face two unappetizing options — (a) liquidate their life savings to rehab the damage; or (b) walk away from the property and accept 7-10 years of bad credit when the deed goes back to the lender.
For many homeowners, even if they have the savings to cover the repairs, option (b) is the best of a bad menu of choices. The property itself may even become uninhabitable — the homeowner might not even be able to live there anymore.
What does that mean for the lender? If a homeowner walks away from the house instead of rehabilitating the flood damage, the lender may be stuck with a house they can’t possibly sell for the remaining mortgage balance. The house is literally “underwater” — not just because of the flooding, but because it is worth less than the outstanding balance.
The lender will have to either sell it at a steep loss, or rehab the damage themselves — also at a steep loss.
Remember, home loans have some of the lowest interest rates and best borrower terms in the lending industry. Why? Because the loans are secured by an asset that is largely expected to increase in value over the life of the loan. The only way the lender can lose is if an uncovered natural disaster renders the asset worthless.
Lenders won’t take that chance. The flood-risk inspection and certification is part of their risk assessment for the loan. They are essentially covering their downside.
FEMA Flood Maps Don’t Guarantee Anything
Most lenders just use the floodplain maps made public by FEMA, but what about protecting yourself as the homeowner and your investment?
Mortgage lenders normally will let the FEMA maps make the decision for them whether or not to require flood insurance. If FEMA places the property in a low-flood-risk zone, the lender will not require flood insurance. If FEMA places the property in a high-risk flood zone, the lender will require flood insurance.
Here’s the problem — the FEMA flood maps are not the Gospel Truth. Human flood inspectors and elevation certifiers assemble the flood-risk map — and they don’t always keep the maps up-to-date like they are supposed to. During the Central Tennessee rainstorms of August 2021, at least two counties’ FEMA maps were 3-4 years past their mandated deadline to be updated. (New York Times.)
In other words, the Federal map is not always perfect — and you may want to consider flood insurance, or an independent analysis, even if it is not required.
View our recent blog: “Why Do I Need Flood Insurance?”
Ultimately, the role the flood certification plays in mortgage lending is to mitigate the lender’s risk of loss. At the end of the day this actually benefits homeowners. By reducing the risk of the loan, lenders are able to still offer home financing to homeowners in at-risk flood areas. This means more people can afford to access the financial and emotional benefits of homeownership.
If you are curious about other potential natural hazards for your current or new home, our comprehensive Natural Hazard Reports are a great option. At SnapNHD, we have some of the best pricing and leverage robust technology to deliver high quality natural hazard reports. Our premium report includes hazard disclosures, tax information, notices, and important maps.