There has recently been a hardening stance by lenders and their legal advisers in regard to insurance policies covering properties used as security for loans. Increasingly lenders and their legal advisers are making specific requirements for the type and amount of insurance borrowers should hold for secured properties.
The background to this recent development follows the withdrawal of ABI support for an agreement which originally dates back to 1992. The Association of British Insurers (ABI), in 1992, struck an agreement with the British Banking Association (BBA) on properties used as security for loans. Under this agreement, lenders could notify insurers of their interest in borrowers’ properties and insurers would then agree to notify them of any alteration or cancellation of cover on these properties. Where the borrower had failed to maintain the cover required under a finance agreement, lenders would then have a grace period during which to arrange their own insurance policy.
Towards the end of 2011, however, the ABI announced its intention to withdraw from this agreement, which eventually came into effect on 31st December 2012. This means that banks can no longer rely on insurers notifying them of changes that might affect their security.
Understandably, the ABI’s withdrawal from the 1992 agreement has raised serious concerns for lenders. We have since seen a dramatic change in lenders’ attitudes and the insurance requirements they stipulate in facility agreements. These now place wider and more stringent demands on borrowers, their brokers and insurers themselves.
Often the lenders’ requirements will tend to lie outside the cover normally provided under insurance contracts and therefore insurers will need to issue specific policy endorsements.
Faced with increased administrative expense and risk exposure as a result of lenders’ increasingly stringent requirements, insurers are now taking a tougher line.
Lenders’ Facility Agreements can typically include the following requirements:
- Cover is provided on an All Risks basis, including but not limited to the contingencies of flood and terrorism insurance
- Cover is provided up to full value
- All premiums are paid prior to completion or within the relevant credit terms of the policy
- Lender to be noted as Composite/Co-Insured on all policies (sometimes joint insured status is incorrectly demanded)
- Lender to be noted as First Loss Payee on all policies
- Policies to include non-invalidation clause in favour of the lender
- The lender shall have no duty of disclosure
- The lender must be given 28 days’ notice of cancellation by the insurer
- The lender must be notified of all claims in excess of, say, £10,000 or a limit stipulated by the lender
There are a number of points worth noting here. The first is that the borrower and the lender have different interests in the property. Being noted in the policy as Composite Co-Insured gives the lender far greater protection against the asset than simply being noted as an Interested Party or indeed as a Joint Insured. The insurer is effectively providing two separate policies: one for the borrower and a second for the lender.
If the borrower’s interest falls away, as a result, for example, of their failure to disclose something material to the insurer, the lender’s interest would still stand. Given this, it is not surprising that insurers now often ask for an additional premium to reflect their additional exposure.
Where the lender requires being noted as Co-Insured, they will also often require that their duty of disclosure is waived. This creates a direct conflict with the standard terms of all commercial insurance contracts, under which all insured parties have a duty of disclosure. It may be possible, dependent on the insurer, to secure specific agreement from the insurer and for them to issue an endorsement reflecting this modification.
When a First Loss Payee clause is requested, the insurer is required to settle all claims to the lender in the first instance. We should recommend that liability claims be excluded from the First Loss Payee clause, and also that the clause be worded so that it applies only to claims in excess of a figure somewhere between £100,000 and £500,000. This removes the otherwise considerable administrative impact of multiple smaller claims payments. Generally, the lender will only be interested in larger losses that could have a financial impact on the loan.
Our advice to property owners in the process of refinancing is to consult with your specialist insurance adviser at the earliest possible opportunity. This will allow them to fully review any insurance requirements contained within the facility agreements and arrive at a mutually satisfactory agreement for all the parties concerned.
For further information please contact:
Jon Phillips ACII
RSM Insurance Services
DDI: 0207 413 2722
Mobile: 07811 284728