Protecting Your Secured Property: Lender's Rights and Duties Following a Loss to the Borrower's Residence

A loss to the secured property through fire, natural disaster, or other covered event is a harrowing situation for both the homeowner and the lender (or more aptly, the loan servicer). Implementing appropriate policies and procedures before a loss occurs ensures that necessary steps are taken post-loss to preserve the lender’s rights to insurance proceeds and that funds are properly utilized to repair or rebuild the residence.

Under the Fannie Mae standard security instrument for a conventional mortgage, the borrower must maintain hazard insurance for any improvements on the secured property against “loss by fire, hazards included within the term ‘extended coverage,’ and any other hazards, including, but not limited to, earthquakes, winds, and floods, for which Lender requires insurance.” The policy must include “a standard mortgage clause” and name the lender “as mortgagee and/or as an additional loss payee.”

In the event of a loss, the Fannie Mae standard security instrument requires the borrower to promptly notify both the insurer and the lender. The lender has the right to hold insurance proceeds and disburse them if repair or restoration is economically feasible.

This is a simplification of the contractual terms and does not address standard investor guidelines concerning insurance policy requirements, force-placed insurance, or the proper handling of loss draft proceeds.  However, it provides a suitable framework for discussing the post-loss process under the "standard mortgage provision" required by the Fannie Mae standard security instrument.

The typical standard mortgage clause  in homeowner’s insurance policies generally provides that:

A covered loss will be payable to the mortgagees identified in the policy declarations, to the extent of their interest and in the order of precedence. All coverage provisions of the policy apply to the named mortgagees.

Additionally, under the standard mortgage clause, the insurer typically agrees to:

protect the mortgagee's interest in the covered property in the event of an increase in hazard, intentional or criminal acts of, or directed by, an insured person, failure by any insured person to take all reasonable steps to save and preserve property after a loss, a change in ownership, or foreclosure if the mortgagee has no knowledge of these conditions; and give the mortgagee at least 10 days' notice if the insurer cancels the policy. 

Courts interpreting the standard mortgage clause have almost uniformly determined that it creates an independent contract of insurance between the insurer and the mortgagee. Consequently, the mortgagee is protected from policy cancellation arising from the named insured/mortgagor's acts or omissions. This includes arson, vandalism, fraud, or lack of insurable interest by the insured/mortgagor, where the policy may be void ab initio. 

Only where the lender/mortgagee breaches its obligations under the standard mortgage clause are its interests jeopardized. Fortunately, the lender's obligations are relatively simple and limited:

1. Furnish Proof of Loss within 60 days after notice of the loss if the insured has failed to do so.

2. Pay any premiums due on demand after the insured fails to do so.

3. Notify insurer of changes in ownership, occupancy, or increased hazard of which the mortgagee is aware.

4. Assign any rights of recovery against the party responsible for the loss to the insurer.

5. Assign and transfer rights in the mortgage, at the insurer’s option, after the mortgage has been satisfied from the loss proceeds.

We emphasize the third obligation as it is often the most pertinent and routinely arises. A change in ownership, occupancy, or increased hazard could include a foreclosure sale  and certainly includes instances where the lender or servicer knows the property has been vacated.

We strongly encourage servicers to send standardized notices to the insurer concerning vacancy and foreclosure sales.

Quick List of Procedures to Implement:

1. Monitor for and Promptly Report Losses

Servicers should have robust systems to learn of losses affecting mortgaged properties, including property inspection programs, borrower communications, and monitoring of insurance claim activity. Upon learning of a loss, servicers should promptly submit a claim to the insurer on behalf of the mortgagee.

2. Verify Mortgagee Status on Policy

Confirm that the mortgagee (or servicer as ISAOA—"Its Successors and/or Assigns") is properly named on the policy declarations page. Failure to be properly named may jeopardize the independent protections of the standard mortgage clause.

3. Submit Sworn Proof of Loss if Required

This issue arises only if the insurer specifically requests a proof of loss from the mortgagee. However, having a claims submission process in place is important. Often, the loss occurs (or is discovered) after the property has been abandoned, and thus, it falls on the servicer to initiate the claims process. A standard notice letter to the insurer informing it of the loss and requesting the proof of loss form will save time and ensure the proper details are tendered to initiate the claims process.

4. Monitor Insured's Compliance and Potential Claim Denials

Once the borrower submits a claim, the servicer should request updates directly from the insurance company. If the insurer denies the borrower’s claim based on the borrower's acts or omissions, the servicer must send a proper notice and demand letter to the insurer asserting its rights under the standard mortgage clause.

5. Comply with the Mortgagee's Notice Obligations

When the servicer has actual knowledge of any change in ownership, occupancy, or increase in hazard affecting the mortgaged property, it should notify the insurer in writing. While the servicer is only obligated to notify the insurer of conditions actually known to it, the prudent practice is to err on the side of disclosure to avoid coverage disputes. These events typically occur when property inspections reveal vacancy or following a foreclosure sale.

6. Pay Premiums if Necessary

This is typically not an issue because most conventional mortgages include escrow insurance premiums. However, if the borrower has an exception to the escrow requirement, the servicer must implement safeguards to ensure premiums are paid and be prepared to tender the necessary funds.

7. Ensure Proceeds Are Properly Disbursed

Ensure that any insurance proceeds check is made payable to the mortgagee. If the insurer issues a check that does not include the mortgagee, the servicer should immediately demand reissuance. Even if the check is properly issued, maintaining communications with the borrower and insurance company is critical to ensure the check is not improperly deposited by the borrower or a contractor without the mortgagee's signature. The insurance company is generally not obligated to reissue a loss proceeds check if it properly identified the payees.   Where a check has been improperly negotiated, alerting the insurance company may help prevent waste of proceeds; otherwise, the servicer may need to pursue the banks under the UCC to recover the funds.

FOOTNOTES

1. See e.g., Fannie Mae Servicing Guide (3.11.2026), § B-2.
2. See 12 CFR § 1024.37.
3. See e.g., Fannie Mae Servicing Guide (3.11.2026), § B-5-01.
4. The Standard Mortgage Clause is derived from the 1943 NY Standard Fire Insurance Policy, which is a baseline standard adopted and required in many states as the bare minimum coverage provisions for residential insurance policies. See e.g., Wash. Admin. Code § 284-20-010(3); Ill. Admin. Code title 50, § 2301.30. 
5. Freddie Mac explicitly requires that the standard mortgage clause includes a 10-day notice period. See Freddie Mac Servicing Guide (7/9/2025) §4703.6.
6. See Dubrovksy, 2018 IL App (1st) 170282, ¶ 41-42.
7. The majority of jurisdictions have determined that the initiation of foreclosure is not an “increase in hazard” requiring notice to the insurer. See e.g., See Allen v. Houston Fire & Cas. Ins. Co., 243 So.2d 905, 910 (La. Ct. App. 1971); U.S. Bank, N.A. v. Tennessee Farmers Mut. Ins. Co., 277 S.W.3d 381, 389 (Tenn. 2009); Guardian Sav. & Loan Ass’n v. Reserve Ins. Co., 2776 N.E.2d 109, 111 (Ill. App. Ct. 1971).
8.  See Thirteen Investment Co., Inc. v. Foremost Ins. Co., 67 F.4th 389, 392 (7th Cir. 2023) (check made payable to mortgagee but improperly cashed by co-payee is a discharge of insurer’s obligation).