Fire Insurance
and
Eminent Domain
Awards
Why do lenders insist that
borrowers carry insurance?
If an uninsured casualty loss occurs, the
security can be damaged or largely
destroyed. (The land can’t be destroyed,
of course.)
 How does the lender know whether the
required insurance has been issued before
the loan is closed?
 By provision of a “certificate of insurance”
signed by the insurance agent.

The ACORD 28
Certificate of Insurance
(2006 ed.)
ACORD 28 2006 Certificate
Language (issued to lenders):


“This evidence of commercial property insurance
is issued as a matter of information only and
confers no rights upon the additional interest
named below.”
“Should any of the above described policies be
cancelled before the expiration date thereof, the
issuing insurer will endeavor to mail __ days
written notice to the additional interest named
below, but failure to mail such notice shall
impose no obligation or liability of any kind on
the insurer, its agents or representatives.”
How can lenders deal with this
insipid “proof of insurance?”
Insist on use of an earlier, more
comprehensive form. (This may violate
state insurance regulations.)
 Get the original policies at the closing.
 Add “loss caused by amendment or
cancellation of the insurance policies” as a
non-recourse carveout.

$31.6B in insurance payouts
Damage to buildings
Undamaged
Required cleaning
Damaged but stable
Severe structural damage
Destroyed
Danger of collapse
Degree of effect
Congress intervened to stabilize
the insurance market.



TRIA, passed in 2003, renewed for two years in
2005.
Shared payment of terrorism claims between
insurance underwriters and the Federal
Government.
Passage of TRIA enabled a market for terrorism
insurance to begin to develop because the
federal backstop effectively limited insurers’
losses, greatly simplifying the underwriting
process.
TRIPRA
TRIA was replaced by TRIPRA (Terrorism
Risk Insurance Program Reauthorization
Act of 2007), with a 7-year term.
 Applies to violent acts causing damage
within United States or to US flag vessel or
air carrier (or mission premises) and
certified by Treasury Secretary to have (1)
been committed to coerce or influence US
policy and (2) resulted in at least $5 million
in insured losses (and not during act of
declared war except for worker comp).

Litigation:
Commercial borrowers throughout the
country had covenanted to carry insurance
that included terrorism coverage.
 In the aftermath of 9/11, the cost of
renewing that coverage skyrocketed, or
renewal became impossible.
 Some lenders argued that this constituted
mortgage default.

Who gets the fire insurance
proceeds?
● If both mortgage and insurance
policy are silent?
● If mortgage says ME gets the
proceeds?
● If ME is named as an insured on the
policy?
What are the limits on the ME’s
recovery of insurance proceeds?
● The amount of the proceeds
● ME’s impairment of security as
defined for purposes of waste (unless
there’s contrary mtg. clause)
● The full debt.
Standard mortgage policy:
This insurance, as to ME, shall not be
invalidated by any act or neglect of the
mortgagor or owner of the property,
nor by any change in the title or
ownership of the property, nor by the
occupation of the premises for
purposes more hazardous than
permitted by this policy.
What’s the effect on the
mortgagee’s rights of...
● MR burning down the property.
● MR committing fraud on the
insurance application.
● MR begins manufacturing paint
thinner on the property.
● MR fails to pay premiums.
The mortgagee’s duty:
“The mortgagee will: … (c) notify [the
insurer] of any change of ownership or
occupancy or any increase in hazard of
which the mortgagee has knowledge.”
 Is commencement of foreclosure by the
lender such a change?
 Kansas and Tennessee have held yes,
while several other courts have held no.

Assume there’s a fire caused by
the fault of the MR. The fire
insurance company pays off the
mortgage. What will it do next?
Assume there’s a fire caused by
the fault of the MR. The fire
insurance company pays off the
mortgage. What will it do next?
Take an assignment of
the note & mortgage,
and enforce them
against MR.
Starkman
Birnbaum
Mtg
Sigmonds
Purchase price.....
Mortgage..............
$150,000
$ 60,000
Ins. proceeds......
Land value after
loss...................
$135,000
________
$ 71,500
The Sigmond’s claim:
 Why
did Sigmonds want the
insurance proceeds?
 Was the Sigmonds’ security
impaired?
 Would the case’s result be the
same if the mortgage itself had
given the Sigmonds the right to the
insurance proceeds?
FNMA form: (p. 1208)
Insurance shall be applied to
restoration if...
●economically feasible and
●lender’s security (after
restoration) is not lessened.
Should MR be able
to force ME to
become a
“construction
lender?”
What if the building was a
“nonconforming use” under
the zoning ordinance?
Suppose ME makes a full credit
bid at the foreclosure sale.
Then ME discovers that the
building burned
the day before
the sale!
What actions by a mortgagee are
barred by making a full credit
bid?
Deficiency
 Pre-foreclosure rents
 Waste
 Casualty insurance
 Fraud in mortgage application(?)

Eminent domain awards:
Fannie Mae form (p. 1292):
In a partial taking, the mortgage is
reduced by:
Proceeds x
Pre-taking debt
Pre-taking FMV
Example:
FMV..............$100,000
Debt..............$ 70,000
Proceeds....... $ 60,000
Debt reduction:
$60,000 x 70/100= $42,000
New debt...... $ 28,000
New L/V ratio : 70%
Thus, the formula’s purpose is to
preserve the actual pre-taking
loan-to-value ratio.
But if the condemnation award
undervalues the property taken,
the loan-to-value ratio will be
worse (higher) than before.
Is it feasible to negotiate an
insurance clause like the Fannie Mae
form if you represent the borrower
on a commercial mortgage?

It’s possible;
perhaps
depending on
the damage
being limited to
20%-40% of
value.
Why doesn’t the
Fannie Mae form allow
use of the eminent
domain proceeds for
restoration of the
property, as it does for
casualty insurance
proceeds?
The end