How Your Bank Could Close Your Mortgage After a Fire
When a homeowner makes a fire insurance claim, they may be surprised to learn that their mortgage lender is co-payable on the funds the insurer releases to rebuild their home. The insurer provides a co-payable cheque to the mortgagor and the homeowner, leaving the two parties to work together to access funds so that the home can be rebuilt or repaired.
Before we get into a troubling problem that can arise from this situation, let’s provide a bit of background. If you are still paying off a mortgage when a fire happens, your mortgage lender is co-payable on any amounts issued for structural repairs up to the balance remaining on your mortgage. This only applies to the Structure / Dwelling portion of your insurance claim, not funds intended to replace lost belongings or cover living expenses while you’re displaced from your home.
Most of the time, lenders are happy to cooperate. They want to see you back in your home and are eager to help you rebuild. They have a stake in the property as an asset and want to see it rebuilt. However, that’s not always the case.
We’ve seen a growing number of cases where the lender decides to close out the homeowner’s mortgage and collect the money from the home insurance claim, forcing the homeowner to refinance. The bank or lender deposits the money from the insurance company and leaves families without the funds they need to rebuild. Instead, the homeowner has to take out a new loan before they can start to rebuild.
This isn’t just an inconvenience. Although interest rates are low right now, it will cost you penalties and fees to close your mortgage, even if it’s not your choice to do so. The bank may even turn around and offer you a mortgage with higher interest rates because you no longer have the collateral of your home. To put it plainly, they’re profiting from one of the toughest experiences you will ever have.
How Your Mortgage Lender Can Make Rebuilding Impossible
If the lender closes your mortgage, it can be impossible to rebuild. Take this example. You still owe $300,000 on the mortgage. In the aftermath of a fire, you’re facing a rebuild cost of $500,000.
The insurer gives you $350,000 to get started on rebuilding, but the cheque is co-payable to the mortgage lender, and they decide to take the $300,000 you still owe them. That leaves you with only $50,000, and it will be difficult if not impossible to rebuild, without additional financing.
Insurers will usually stagger the payments and require proof that you have spent the insurance money on rebuilding before releasing additional funds. In the example above, the insurer would require proof that you have spent $350,000 on your home before releasing the final $150,000. This is where the problem lies. Your mortgage lender has only left you with $50,000. Where will the rest of the money come from? In almost all circumstances, homeowners should avoid paying off their mortgage with insurance funds.
How to Rebuild Your Home If Your Lender Closes Your Mortgages
One of your options will be to take out a construction loan. They’re often used to build a custom home from the ground up. Money from a construction loan is released as progress is made by the builder. The lender would confirm each stage of the rebuilding or repair process before advancing more funds. This is how the lender makes sure the money is going where it’s supposed to and that there will be a finished house to back the mortgage or loan by the end of the process.
A construction loan may come with higher interest rates and require a larger down payment. If you can’t qualify for a large enough loan to cover all of the reconstruction costs, you may have to settle for a smaller home.
Working with Your Mortgage Lender
Even when lenders are happy to cooperate with you, there are usually checks and balances in place to make sure that the money is being spent appropriately. Lenders do not want the homeowner to cash the cheque from the insurer and walk away from their mortgage. That would leave the bank with no house to repossess. They have a vested interest in making sure you repair and rebuild your home.
To that end, the mortgage lender may issue periodic payments, releasing money in phases as they confirm that the work has been done. Typically, they’ll release money in three stages: at the start of the rebuilding process, when 50% of the work has been completed, and when 100% of the work has been completed. It’s common enough that most contractors should be familiar with periodic payments. There is also a 10% holdback, which is not uncommon until the home is ready for occupancy.
In some cases, the cheques from the insurer come co-payable to the homeowner, mortgagor, and builder. The homeowner and mortgagor sign off the funds to the builder so that they may begin repairing or rebuilding the home.
In this case, the mortgage lender will have their own checks and balances to ensure the money is being spent appropriately. For example, they may send someone out for an inspection of the work. However, these checks need to be timely. If an inspection takes 2-3 weeks to organize, the rebuild will be delayed. The insurer may not provide extra time, and you will have higher Additional Living Expenses that they may not cover.
What Can You Do If the Mortgage Lender Closes Your Mortgage?
There’s not much you can do if the bank decides to cash your insurance claim and close off your mortgage. However, you should make sure that they have not taken more than they are entitled to. They should only deposit the amount up to the remaining balance on your mortgage. However, the insurance company is not usually aware of your mortgage. The insurer may make the whole Structure portion of your insurance claim co-payable to the lender.
Virani Law is often forced to step in to chat with a lender who is being more difficult due to internal policies of cashing out the mortgage or loan. Often, our involvement can help create options for the Family where they are not forced to close out a mortgage or loan. Sometimes these financial institutions have policies in place that inadvertently impact homeowners in unique situations. Having someone advocate on your behalf can often be the difference of working with your lender to find solutions or being put in a precarious position.
The Stress of Refinancing Your Home
A house fire is a personally devastating experience. At a time when you would hope everyone around you would be in your corner, your mortgage lender can make your life more difficult. Refinancing isn’t just more expensive; it’s a major stress factor at the worst possible time. While most lenders are tenable to working with you, this issue is becoming far more common.
Big corporations should make it easier to help people get their lives back on track. Instead, some lack the understanding of the impact their policies may have. Policy changes limiting the banks’ ability to close on a mortgage after a loss like a fire are the only way to protect homeowners from being forced into refinancing. Legislation needs to be put into place to protect homeowners from banks in a time of crisis.
In the interim, we can only hope that large financial institutions will stand by their homeowners and help them through the process, instead of profiting from out of touch policies that cause considerably more harm than good.