The number of residential foreclosures is up as property owners are unable or unwilling to catch up on mortgage payments. Foreclosures on commercial real estate are also increasing. As a result, the property insurance industry is experiencing an influx of claims from mortgage holders for damage to properties with borrowers in default, with foreclosure pending, and with foreclosure completed. The status of the foreclosure will be a determining factor in how the claim proceeds.

Suppose an insured, faced with foreclosure but still living in his home, intentionally damages the structure. The insured has a homeowners policy that lists a mortgagee in the standard mortgage clause. Can the mortgagee recover for this loss?

The answer depends in part on what stage the foreclosure proceedings are in. If foreclosure is pending, meaning there has been no legal conclusion to the foreclosure proceedings, the mortgagee can seek recovery under the standard mortgage clause of the homeowners policy. The mortgagee would have a good argument in favor of recovery. The standard mortgage clause is generally said to protect the mortgagee from act or neglect of the mortgagor. In other words, although the insured cannot recover for his own destruction of the property, the mortgagee can recover. For example, in one often cited case, Jones v. Motorists Mut. Ins. Co., the mortgagee had a right to recover despite the insured’s arson conviction.

The mortgagee generally can recover, but its recovery is limited to the amount of its mortgage lien, not to exceed policy limits. What if, despite the damage to the property, the mortgagee’s security in the property has not been impaired?The majority of courts have held that the mortgagee is entitled to recover for a loss despite the fact that its security in the property has not been impaired by the loss. For example, in Kintzel v. Wheatland Mut. Ins. Assn., the mortgagee recovered insurance proceeds although the property in its damaged state was sufficient to secure the mortgage debt.

Any recovery received by the mortgagee will decrease the balance on the insured’s mortgage debt. So does that mean the insured will benefit by the payment to the mortgagee? The standard mortgage clause is designed to prevent this result. It entitles the insurer to subrogate against the insured or take an assignment of the mortgage, enforceable against the insured. This provision in the standard mortgage clause is an exception to the general rule that an insurer cannot subrogate against its own insured.

The standard mortgage clause protects the mortgagee only against losses under Coverage A and B of the policy. Thus, if the damage in question consists of the insured’s removal of appliances from the home, assuming the appliances are personal property and not fixtures to the realty, the mortgagee would not be entitled to recover for this loss.