Consumers facing floods should welcome more options, the RAA suggests

To protect their property in the event of a flood, most owners and renters in the US are faced with one option: purchasing flood insurance from the government-run insurance company, the National Flood Insurance Program (NFIP). The NFIP currently provides flood insurance to more than five million policyholders in the US, and its statutory authorisation is scheduled to sunset on September 30, 2017.

US lawmakers in Congress, the administration, policyholders, and stakeholders are largely in agreement that the programme should be reauthorised and are developing legislation reforms to both improve the programme and facilitate private market development, giving consumers additional policy options. It’s not a secret that competition can drive down costs, drive up innovation, and benefit consumers. The Reinsurance Association of America (RAA) is a strong proponent of consumer-centric flood insurance reforms in the US that achieve these goals and utilise globally available risk-sharing mechanisms, such as reinsurance.

The NFIP is more than a government insurance company. It is an important federal programme that encourages communities to undertake actions to defend against flooding through awareness, mitigation, floodplain management, and sound building practices, among other missions. The programme makes flood insurance available to homeowners living in participating communities so that, should all else fail, policyholders have the financial ability to help them recover in the aftermath of a damaging flood.

Unfortunately, because the programme is more than an insurance company, subsidises some rates, faces risk concentration concerns, and has not accounted for catastrophic events until this year, NFIP is not self-sustaining and could not independently pay claims resulting from significant flooding events in recent history. NFIP stands indebted to US taxpayers to the tune of nearly $25 billion.

Reforms
Fiscally conservative policymakers want to reform the programme to reduce the probability that the programme will incur multibillion losses in the future. Reforms in place since 2012 and 2014 have tried to move the programme towards financially stability, at least prospectively. These reforms include a phase-in of rate increases to reduce and ultimately eliminate many of the programme’s subsidies; and the use of reinsurance and other risk-sharing mechanisms to improve risk management and transfer catastrophic risk to protect taxpayers. In addition, the reform proposals contain other provisions designed to facilitate the development of a private market for flood insurance.

Many lawmakers and policyholders have expressed concern that the move to rates reflecting risk will erode property values and otherwise harm people on low incomes, the middle class, and retirees. Some lawmakers called for eliminating the NFIP debt to US taxpayers, and some propose expanding, versus reducing, programme subsidies and exposures.

It is worth noting that the NFIP does not means-test, allowing property owners of any socioeconomic status to purchase NFIP flood insurance, sometimes at a subsidised price. Since the NFIP subsidies have never been means-tested, data regarding the relative wealth of the subsidy recipients is not available. If subsidies are needed, the RAA supports means-testing and funding actions that reduce the chance of flooding and consequently lower insurance premiums.

In other reform debates, various stakeholders are perpetuating a myth that flood insurance reforms that facilitate a private flood insurance market could result in “cherry-picking”, meaning that private insurers will take the lowest risks, leaving the NFIP with insufficient funds to handle the highest risks. Fundamentally, these stakeholders are arguing that lower-risk policyholders should be denied alternative choices and should be condemned to pay higher, more-than-adequate premiums to partially subsidise the higher risk, heavily subsidised policyholders.

The Florida example
Additional subsidies are paid by taxpayers generally when the NFIP incurs unsustainable debt. The cherry-picking argument was raised in Florida recently when policymakers recognised that the potential financial risk of its Citizens Property Insurance Corporation (Citizens) was so large that something had to be done.

Since the NFIP’s problems and proposed reforms mirror those of Florida Citizens to a degree, the RAA has produced an analysis that extrapolates from the Florida Citizens’ experience to evaluate the impact of private market competition on the NFIP.

The analysis finds that the theory that private insurers would harm the NFIP by taking only the best risks is not borne out in practice. Florida’s private insurance companies have taken high and low-risk wind insurance from Citizens and, those that are writing private flood insurance are also writing in higher hazard areas. In addition, the analysis found that the reduction in Citizens’ policy count helped to strengthen, not weaken, its finances.

In 2012, Citizens had roughly 1.5 million insured properties, many heavily subsidised, and like the NFIP, presented the likelihood of a massive deficit in the event of a major catastrophe. The combination of using the private market to reduce its policy count and risk concentration, phased-in rate increases, and a reinsurance programme helped Citizens reduce its policy count to close to 450,000, and put itself on a strong financial footing, significantly reducing its probable losses. Taxpayers were better protected and homeowners had more choice of providers and in the terms and types of coverage offered.

Currently, Citizens can meet potential losses from a one-in-100 hurricane without taxpayer funding, compared to 2011, when it would have needed over $6 billion if such a storm hit Florida. While homeowners generally had the option of staying with Citizens, most policyholders accepted private insurance, and private insurers, applying their underwriting standards, chose policies across the risk spectrum, including those in ‘high risk’ coastal zones.

The Citizens results speak for themselves. By facilitating policy ‘takeouts’ Citizens reduced its overall risk, particularly catastrophic risk. Thus, the maximum loss faced by the programme was smaller than before. The gradually increasing premiums infused more cash into the company, while reinsurance took on much of the catastrophic risk.

If the NFIP were to undergo similar actions, we estimate the results would be extremely beneficial to policyholders, taxpayers, and the NFIP. Equally important is that we anticipate that additional private flood insurance will increase the number of consumers and properties insured against the peril of flood. Private market flood insurance will supplement and enhance the NFIP, making it stronger and enhancing the financial resilience of consumers, communities, the NFIP, and taxpayers.

We encourage NFIP policyholders and administrators, federal lawmakers, and other stakeholders to embrace and facilitate the development of a private flood market. By following Florida’s lead, a smaller NFIP will lead to a stronger NFIP and, most importantly, to more options for consumers.

Nicole Austin is senior vice president, federal affairs at the Reinsurance Association of America.
Dennis Burke is vice president, state relations at the Reinsurance Association of America.