When obtaining a mortgage, you may find that there are specific terms and elements of the contract that you don’t understand. Some initial confusion is normal, considering that most people aren’t fluent in the language used in legal contracts. However, you should learn as much about your contract as possible before signing.
In the process of drawing up a contract, mortgage lenders (also known as mortgagees) put in place certain measures to ensure that the collateral for their investment – your new property – is protected. One such measure is the mortgagee clause. Let’s take a closer look at what it is, so you have a clear understanding of how it can impact you and your lender.
A mortgagee clause is a protective provisional agreement between a mortgage lender (the mortgagee) and a property insurance provider. This type of clause safeguards the lender from incurring financial losses in cases where the mortgaged property becomes damaged, as it requires the insurer to guarantee payouts when any claims covered by the property insurance policy are made. Mortgagee clauses are also known as mortgage clauses or loss payee clauses.
As a provision in a borrower’s property insurance policy, the clause stipulates that, in the event of loss or damage to the property, the insurance company would make payments to the mortgagee. Therefore, if you obtain a mortgage to buy a home or property and that property is then destroyed in a fire, the mortgagee clause would ensure that the loss would be payable to your lender even though it’s part of your insurance policy.
This clause also protects the lender in the event that you cause damage to the property, which leads the insurance provider to cancel the policy. For example, if you commit arson – an act that would void your insurance policy – the clause protects the mortgagee, ensuring that your lender will still be covered.
Many lenders require borrowers to have a mortgagee clause, and it’ll be a part of the loan under their property policy, issued by the homeowners insurance company. The company will need to document who has the lien within the policy. In some cases, if it’s not a requirement to get a mortgagee clause, a borrower must contact a lender to add the clause to their current contract.
As you’ve learned, a mortgagee is a mortgage lender. A mortgagor is a borrower, an individual or party who receives funds from a mortgagee to purchase a property. In a real estate transaction, a mortgagee provides a mortgage loan to a mortgagor, who, in turn, offers the title of the property purchased to the mortgagee as collateral.
This means that if a mortgagor is unable to keep up with monthly mortgage payments and defaults on the loan, the mortgagee can foreclose on the property and sell it to recoup costs. But if the property is damaged, the mortgagee’s investment is put in jeopardy. This is where the mortgagee clause comes in. It ensures that the mortgagee will be paid out even if the mortgagor is responsible for the damage to the property.
Property insurance includes a few different types of policies, including homeowners insurance, renter’s insurance and flood insurance. For the purpose of this article, we’re going to focus on homeowners insurance, as it’s directly beneficial for both mortgagors and mortgagees. Mortgagees require that mortgagors purchase a homeowners insurance policy that includes dwelling coverage, which protects against physical damage to a property, and liability coverage, which protects against lawsuits brought against a homeowner in the event that someone is physically injured on their property.
Mortgagees will require mortgagors to buy enough insurance to cover their entire property in order to protect their investment. Remember, if a property were damaged and uninsured, the mortgagee might not be able to sell it for enough money to cover the remaining balance of the mortgagor’s loan. In this way, this insurance also protects the mortgagor, who would most likely be held accountable for repaying the difference.
Although you now understand the basics of mortgagee clauses, there are still some unfamiliar terms that you’ll find in the clause. Let’s take a look at three specific terms you should understand.
As discussed, a mortgagee clause is a lender protection that prevents lenders from financial losses and from taking complete responsibility for a failed loan due to property damage. The mortgagee clause ensures that the insurance company pays the lender if the property is damaged and guarantees that they’ll receive their money even when borrowers are responsible for the destruction of the property.
ISAOA is an acronym found in mortgagee clauses that stands for “its successors and/or assigns.” It’s included in the clause to stipulate that the mortgagee can transfer their rights to another bank or financial institution. This ability to assign rights to another party allows the mortgagee to sell the mortgagor’s loan on the secondary mortgage market. Mortgage lenders commonly sell borrowers’ loans to secure funds for future loans; however, this practice has little to no effect on borrowers. Even if a lender sells your loan, they can retain the servicing rights, meaning you still send your payment to them and their responsible for maintenance of the escrow account and you can contact them about the loan at any time.
Another acronym commonly found in the mortgagee clause, which may be used in conjunction with ISAOA, is ATIMA, or “as their interests may appear.” This term is used to extend the insurance policy to include insurance coverage for other parties with whom the mortgagee tends to do business. Its meaning is very similar to ISAOA, as it merely allows the mortgagee to include others under the policy’s protection without having to name them explicitly.
The mortgagee clause is an important provision in a property insurance policy that ensures that the insurance company will pay the mortgagee in the event that loss or damage occurs to a mortgagor’s property. The clause is an important measure that mortgagees take to protect their investment in a mortgagor’s property.
If you’re a mortgagor, or you’re soon to be one, it’s vital that you have a strong understanding of all the contractual provisions that could have an impact on you and your real estate transaction. Get mortgage approval now to make sure you have all the info you need to close on your property with confidence.