What (Really) is a Loss Payee?

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In prior postings to Ruminations, we’ve lamented over how little, collectively, we negotiators of lease and loan documents really understand about insurance and insurable risk issues. And, also that this general ignorance doesn’t seem to be a barrier to our drafting documents and then defending, to the hilt, what we’ve written. Despite the implied insults in those earlier postings, no other general topic has generated as many “write more about this topic” requests. So, despite the words of the immortal Alexander Pope – “Such shameless Bards we have; and yet ‘tis true, … For Fools rush in where Angels fear to tread,” here we go… . [No, Alexander Pope did not steal those words from Johnny Mercer’s 1940 song, “Fools Rush In.”]

Today’s topic – What does it mean to be named as a Loss Payee on someone’s insurance policy?

First, we’re talking about someone else’s insurance. Second, we’re talking property insurance, not liability insurance.

Most importantly, being a Loss Payee doesn’t tell you “what kind of Loss Payee,” because there is more than one kind.

The place to start is within the property policy itself because that’s the “contract.” It’s the place where the Loss Payee’s rights and remedies are “granted.” Most policies are written on ISO forms. Some are derivative of ISO forms. A few are unique. [Who is ISO? It is a private, for-profit company, owned by its member insurers and employees.]

One type of Loss Payable provision is found, pre-printed so to speak, in the basic property insurance policy, in the Additional Conditions of the ISO Building and Personal Property Coverage form [Section F.2., on page 12 of the CP 00 10 04 02, if you insist on knowing]. It says that mortgageholders (including trustees under Deeds of Trust) who are named on the Declaration page of the policy will receive payments for covered losses in their order of precedence, as their interests in the insured property may appear. And, that is even if they have started foreclosure or similar actions.

NOW, THIS IS IMPORTANT. This is what people mean when they call for a “union,” “standard” or “New York” mortgagee clause. The mortgagee can get paid even if the policyholder, in its own right, would be denied payment because of the policyholder’s own acts. Simply translated, if the property-owning policy holder burns down its own building or creates the windstorm that causes the damage, it would NOT get paid under the policy, but listed mortgageholders will still get paid. There are some details, like if the policyholder doesn’t pay the premiums, the mortgageholder has to do so to keep the coverage, but the standard mortgagee clause in the standard ISO property insurance policy is very favorable to a mortgageholder.

How else is it favorable? Well, by now most of us know that a Certificate of Insurance conveys no rights whatsoever to the Certificate holder, and even has the chutzpah to say that the carrier will give notice in accordance with the policy provisions. This is either a step up or a step down (I don’t know which) from the previous versions that wherein the carrier promised to endeavor to give notice. Of course, the trick is knowing whether the policy itself promises to give notice. You can assume that it doesn’t unless you find an applicable provision saying otherwise.

Miracle of Miracles [Fiddler on the Roof], however, the mortgagee provision in the ISO policy actually says that the insurer WILL give the mortgageholder written notice of termination or non-renewal – 10 days for non-payment or non-renewal, and 30 days for other reasons.

Thus, being a listed mortgageholder on the Declaration page of your borrower’s property insurance policy is a pretty good deal.

BUT, what if you aren’t a mortgageholder, such as might be the case where the property in question is personal property or the insured property is real property, but your interest is not by reason of a mortgage lien?

Well, there’s a form for that, too – this time, it’s an Endorsement to the ISO property insurance policy [CP 12 18 06 95, for those with an urge to know]. The trick, however, is that it is a “check the box” kind of form – there are three “levels” of Loss Payee on the same form. You can be marked for one of the following three provisions: “Loss Payable,” “Lender’s Loss Payable” or “Contract of Sale.” To get any of these “coverages,” you need to be listed on the Declaration page of the policy or on the Schedule that is part of the Endorsement itself. If you aren’t listed, your aren’t going to be a Loss Payee of any kind.

Anyone with an interest in covered property is eligible under the “Loss Payable” provision. Basically, it says that the Loss Payee will get a joint check with the insured and the insurer will adjust losses with you. What it doesn’t say is that if you check the wrong box, you are still a “Loss Payee,” but if the insured sets fire to the insured property, it doesn’t get a check and you don’t get one either. And, you don’t get any notices of termination. In the insurance trade, this “box” is called an “open” clause. Contrast it with the protection a mortgageholder gets in the standard ISO policy under the standard “New York” mortgagee clause.

There is another “box.” If you qualify under the “rules” of the “Lender’s Loss Payable” provision, check this “box” and you’ll be getting the same coverage as if you were a mortgageholder under the policy. That’s pretty broad coverage, with the built-in protections described above for mortgageholders. To qualify, however, you must be a “creditor,” and your interest in the covered property must be set forth in a written instrument such as: (a) a Warehouse Receipt; (b) a contract for a deed; (c) a Bill of Lading; (d) a Financing Statement; or (e) a Mortgage, Deed of Trust or Security Agreement. Those are all documents that define or give notice of an interest in the insured property.

The last category (“box”) is for Loss Payees whose interest in the covered property is by way of a Contract of Sale. The coverage is the same as under the simple “Loss Payable” provision, but the definition of the insured is automatically amended to include the contract-purchaser (that would be you, the Loss Payee under those circumstances).

So, where does that lease a simple “tenant,” who isn’t a creditor and who isn’t a mortgageholder, and who isn’t a contract purchaser. How can such a tenant get “control” over insurance proceeds, at least to assure that they will be used to restore its landlord’s damaged property? I don’t have an answer to that. My thinking is that you can’t (at least not directly from the insurance carrier). There are more savvy people out there than this lone blog writer. If any of you qualify, please chime in.

Lastly, and this is important. If you aren’t named on the Declaration page of the Policy, you aren’t going to get protection under the mortgagee provisions of the policy. If you aren’t named on either the Declaration or on the Schedule portion of the Loss Payable Endorsement, you aren’t going to be a Loss Payee. If you are listed as a Loss Payee, be sure you know that you qualify in the first place, and be sure that you’ve been indicated for the property “level” of Loss Payee status. And, as everyone knows by now, you can’t rely on a Certificate of Insurance to “prove” you have any coverage or any rights under the insurance policy.

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