The 2% interest floor stays, but now borrowers can get cash in hand
Borrowers rebuilding damaged homes in California now have a new right: getting interest payments sent directly to them, not just parked in their lender's account.
Governor Gavin Newsom signed Assembly Bill 1278 into law on September 30, 2026, amending Civil Code Section 2954.85 to change how financial institutions handle interest earned on hazard insurance proceeds held in loss draft accounts during property repair or rebuilding.
The backstory matters. When a homeowner files a hazard insurance claim on a one-to-four-family residence, the insurer's payout typically flows into a loss draft account controlled by the lender while the property is repaired. Under a statute added just last year - Chapter 103 of the Statutes of 2025 - lenders already had to pay at least 2% simple interest per annum on those funds. But that interest could only be credited to the loss draft account itself. Borrowers never saw it as cash in hand.
AB 1278, authored by Assemblymember John Harabedian, changes that. Lenders must now offer borrowers the option of receiving interest payments directly - by check, electronic funds transfer including ACH, or another payment method the borrower agrees to.
The law builds in a practical safeguard. If a borrower does not cash an interest check within 90 calendar days of delivery, the check is canceled at no cost to the borrower and the money is credited back to the loss draft account. The statute defines "check" narrowly: a cancelable draft drawn on a bank and payable on demand. Cashier's checks and money orders do not qualify.
The 2% interest floor is protected, too. Lenders cannot tack on any fee or charge related to maintaining or disbursing loss draft funds that would effectively push the interest rate below that threshold.
The law's definition of "financial institution" is broad - banks, savings and loan associations, credit unions chartered under state or federal law, and any other person or organization making loans secured by one-to-four-family residential property. The one carve-out: proceeds that a state or federal regulator requires a non-bank to hold in a non-interest-bearing demand trust fund account at a bank.
For funds already sitting in loss draft accounts when the law takes effect, interest starts accruing on the effective date.
For servicers, the operational takeaway is straightforward: systems need to support a direct-to-borrower payment option alongside the existing account-credit method, with check-tracking built in for the 90-day cancellation window. The compliance lift is modest, but the deadline is real.
