NFIP Risk Assessments Outdated
This critique follows another GAO report, issued at the end of October 2008, that focused on the National Flood Insurance Program’s (NFIP) rate-setting practices. In many cases the NFIP uses outdated estimates of risk and, even when properties are reevaluated and put into higher risk zones, premiums do not always reflect the increased risk because of FEMA’s concern that a higher premium will cause policyholders to drop out of the program, the GAO noted. Some 25 percent of policies have subsidized rates, according to GAO estimates. Currently, the premiums collected do not cover the program’s operating expenses, claim costs and debt repayments to the U.S. Treasury. With the potential for more severe flooding in the future, the federal government and ultimately the taxpayers are exposed to ever-greater financial risks, especially in years of catastrophic flooding. The GAO suggested that FEMA ensure that its rate-setting methods result in rates that accurately reflect flood risks and that it determines the impact of the newly subsidized properties on the NFIP.
GAO report basis for failure of wind coverage program
A GAO report released in May 2008 underlined the difficulties in implementing an optional wind coverage provision. The GAO said that the homeowners most likely to purchase the optional wind coverage would be those with the highest likelihood of wind damage (a concept known as adverse selection in the insurance industry), making deficits likely; that a new distribution network would have to be created because insurers now sell most federal flood insurance through the ‘Write-Your-Own” public/private partnership, see Background section, and if wind coverage were added they would be undercutting the wind coverage in their own homeowners insurance business; and that the flood insurance program is already burdened by $17 billion in debt as a result of the 2004/2005 hurricanes, making it difficult to take on a new and volatile wind program.
High-risk government pools lead to defecits
The optional wind provision was originally proposed by Rep. Gene Taylor, D-Miss, in response to litigation over wind/flood coverage issues following Hurricane Katrina. At a hearing on the bill that included the provision, insurers stressed that most government-run property insurance programs aimed at providing coverage to high-risk policyholders, such as coastal property owners, operate at a deficit. Regulators are under political pressures to keep rates down in both the private market and state-operated pools, which, in turn, leads to larger pools, as private insurers withdraw from high-risk areas, and to higher deficits. If rates for wind coverage are commensurate with the risk and wind coverage is optional, as proposed, few homeowners will purchase it when they can obtain a much cheaper policy through the state. Although many in the insurance industry oppose Taylor’s wind/flood coverage proposal, several large homeowners insurers support the concept. Contact your Cravens Warren commercial flood insurance specialist to see how this change may affect you.
