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Uncle Sam is drawing a line in the sand on flood insurance. The federal government will no longer subsidize insurance premiums for some types of properties, including second or vacation homes, commercial property or homes that have been flooded before and rebuilt. Congress will insist on the changes as part of a $20-billion bailout of the National Flood Insurance Program (NFIP), which Hurricane Katrina wiped out. About 9% of flood insurance policyholders—some 450,000 of them—will lose the taxpayer-funded subsidy.
For those policyholders, premiums will soar, doubling over the next five years or so, as government subsidies are phased out. But even policyholders whose taxpayer assists are secure are likely to see a 13%-15% premium hike next year, as insurance companies anticipate more and larger payouts in future years. Subsidized premiums run about 60% of prevailing market levels.
In the wake of the huge taxpayer-funded bailout, lawmakers will demand other changes in the program as well: The development of a reserve fund to help cover losses in years when premium income falls short (although it will be years before the fund will be large enough to offset the costs of big disasters). Stiffer fines on lenders that don't make sure their mortgaged properties buy flood coverage. Requiring state-chartered banks to comply with the same insurance regulations as federally chartered lenders. And more money for updating flood maps.
Still, legislation won't go far enough to ensure no future bailouts will be needed. The NFIP will remain in precarious shape, particularly considering that fierce hurricane seasons are expected to be the rule rather than the exception in coming years. Moreover, while scientists are warning that warmer ocean temperatures mean more and nastier storms, there is no slowdown in the rapid development of vulnerable coastlines. Risk modeling firm AIR Worldwide Corp. expects insured dollar losses due to catastrophes such as hurricanes, earthquakes, tornadoes and floods to double every decade. Even with the extra money it takes in, the NFIP will have only enough on hand to cover about $800 million in annual claims this year, far below last year's record $23 billion in flood-related losses. In its three-decade history, the NFIP rarely had a shortfall, only occasionally borrowing taxpayer money and repaying it promptly. Now, the program is likely to flirt with insolvency until Congress takes a more serious stab at reform.
The political costs of reform are too high. A proposal to broaden mandatory coverage areas from property within a 100-year floodplain (a 1% chance of being flooded in any given year) to property within a 500-year floodplain (a 0.20% chance of being flooded in any given year) is getting short shrift. That would double the number of policyholders to about 10 million and bring more money into the program. But developers and builders object, fearing that the costs would scare away potential buyers.
Similarly, proposals to ratchet up premiums in flood-prone states with a penchant for allowing risky coastal development won't fly. Critics argue that Florida, Louisiana and Texas account for roughly half the $30.6 billion paid out in the history of the flood program. But there is no legislative appetite for punishing states that are already reeling from disasters.
Meanwhile, to cope with their increased risks, private insurers are jacking up premiums, raising out-of-pocket deductibles and even pulling out of the market in some high-risk areas. Many insurers have bolted from Florida, for example, while those remaining are raising rates dramatically. State Farm, for one, is requesting a 70% increase in its homeowners' premiums. Homeowners on Massachusetts' Cape Cod are seeing 25% rate increases.
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