Insurance On A Second Lien?

[Christopher Winkler]

When we invest in a senior lien, we always get some sort of forced place insurance if vacant, or until we can get on the homeowners policy. 

One thing we have not done since adding junior liens to the mix is put insurance on them. I assumed the property is insured, which is stupid since one senior lien we just sold that had been making payments was not able to get insurance since he went so many years without it. That cost us $59.50 a month

And we just received the monthly insurance mortgagee notification from the contract for deed that was just paid off in North Carolina, and it triggerred my brain to ask myself, should I be putting insurance on the 2nd liens until we are added as loss payee?

And if it did burn down, or blow away, and we are not on the homeowners insurance, nor our own insurance, could we suffer a full loss? All comments and answers are appreciated!

[Joshua Andrews]

This is an interesting question. 

I think it depends if you own the property, vs having insurance for the existing 2nd lien.

As an example, we recently took back several homes when we foreclosed from the 2nd position. These are now REO properties. There is still an existing 1st lien on each property, most of which have escrow and insurance covering replacement value. We are not named as loss payee on these policies.

Currently it is our understanding is that since we own the deed (ownership of the property) if the property were to burn down or become a total loss, the 1st lien is usually covered for full replacement value. This would pay the 1st lien, and much of our remaining interest, though possibly not all. Our main concern has been liability coverage for events such as slip and fall, etc while we are evicting the current occupants or while a tenant is occupying the property.

What we have settled on so far, is to provide liability coverage (slip and fall) and a small replacement coverage policy for loans where we have substantial equity to lose if the home were to be destroyed in some manner. The cost to these policies are minimal, and worth the expense.

We do not insure all our 2nd liens, as this is not cost effective. Something that may be underwater does not need insurance, or if we purchased at such a low discount it's not worth spending money to insure it each year, unless you are passing that cost to the borrower somehow. For most performing 2nd liens, once you have them performing you can simply require the borrower to add you as an interested party or loss payee on the 1st's insurance policy. It's really no harder than that.

I think much of the determination needs to be from how much you stand to lose, and how much real equity you have.

- Josh