Private Flood Insurance Bill-The Beginning of the End for the NFIP and Comprehensive Flood Risk Management
in the US?
Changes to the Mandatory
could have Significant
By Chad Berginnis, CFM, ASFPM
Listening to some, a bill affecting private flood insurance being rushed through Congress seems innocent enough (HR 2901 and its companion bill in the Senate is S 1679). One insurance industry representative told me, "It only implements what was intended in recent NFIP reforms." To other proponents, including some members of Congress, the lure of cheaper flood insurance rates is the chief benefit. And others think it would reduce taxpayer exposure by avoiding exposing the NFIP to future multi-billion debt. Seems great, right?
Concerns have begun to crop up recently, not only from other organizations, but also from ASFPM members. As a result, we have dug into the bill and talked to experts, former insurance commissioners, lenders and others to examine the potential impacts. The responses range from concern to dismay. I had one very well respected industry colleague tell me that it will "absolutely gut the NFIP." From my own analysis, it is clear that there was no consideration of the other elements of the NFIP and how the program holistically reduces flood risk in the country (anybody remember the FEMA statistic how the adoption and enforcement of floodplain management standards saves over $1.7 billion in avoided damage annually?).
What problems does the bill try to address?
One current problem identified by the insurance and lending industries is that today, private policies are not portable – in other words they don’t count towards continuous coverage if a person switches from an NFIP policy to private policy back to an NFIP policy. Two paragraphs on the 11th page of the bill fixes this issue.
Another longstanding problem that the bill tries to address is the responsibility for determining what is an acceptable private sector policy to meet the NFIP's mandatory purchase requirement? Currently, the responsibility for this determination rests with federal banking regulators. Yet, the regulators have never really stepped up to do it. This has been a frustration for decades and it was made worse when FEMA decided in 2013 that it was not in their authority to even provide guidance on the mandatory purchase provisions (who remembers the mandatory purchase guidelines FEMA used to produce?). There was hope that this problem would be ad-dressed when, also in 2013, all of the federal lending regulators issued a joint advanced notice of proposed rulemaking establishing requirements with respect to the acceptance of private flood insurance coverage. However, a final rule has never been published. This bill delegates the determination of an acceptable private policy to the 50 states. The 10th page fixes this issue.
What, then are the other provisions of this bill about? This is where it gets interesting. There are three notable items.
First is a requirement that ties the hands of federal agency lenders (including Government-Sponsored Enterprises (GSEs) like Fannie Mae or Freddie Mac, as well as direct federal lenders such as the Department of Agriculture and Veterans Administration) by stating what they "shall accept" in terms of private flood coverage in lieu of an NFIP policy. This will result in the requirement to accept policies that are not equivalent to the NFIP. These federal agency lenders would have no flexibility and would be subject to state requirements.
Second are limits on what a state insurance department can regulate in terms of a private flood policy. Proponents of the bill point out that this merely transfers the responsibility of oversight to the states. However, other limits in the bill significantly restrict what and how the states will provide oversight.
Third is the elimination of anything that requires a private policy to be equivalent with the NFIP, with one exception: private policies must have at least the same overall coverage amount of the mandatory purchase requirement. Eliminating real equivalency means no requirement to provide Increased Cost of Compliance coverage, no limits on deductibles and no limits on exclusions. What’s so bad about that? Let’s say a property owner is paying a premium of $2,000. Under this bill, a private policy might be offered for $500/year. Sounds good, right? What if that policy also carried a $25,000 deductible? And, what if that policy excluded some of the coverage otherwise found in an NFIP policy? What if the policy holder cannot afford the deductible after the disaster? What about costs to elevate the house to current codes? Will the property owner just walk away from the property?Who then pays for those costs?
What are the potential impacts of this bill?
Let me caveat this by saying that I am projecting--nobody knows exactly what this bill, if passed, would do, but based on what is in the legislation and how the NFIP works more broadly here are some of the biggest impacts I foresee (with those of concern to floodplain managers listed first):
•Significant number of communities dropping out of the NFIP. In my prior role at the state, I attended dozens of meetings with communities contemplating dropping out of the NFIP for various reasons. The main reason communities join--and stay in the program--is the availability of flood insurance for home mortgages. Thousands of NFIP communities have fewer than 10 policies. If some elected leaders determined flood insurance was widely available in the private market, even if the community dropped out of the NFIP, would they do it? This is a likely scenario because the pending bill HR 2901 doesn’t tie availability of the private policy to NFIP participation. Gone would be land use and building standards.
•No ICC. Since the bill eliminates nearly all requirements for equivalency to an NFIP policy, companies offering private flood policies wouldn’t need to cover costs related to complying with local codes. Remember, ICC was added to the NFIP in 1994 due to the difficulty local officials had with the substantial damage requirement because there were no resources to help property owners cover the additional costs to bring substantially damaged buildings into compliance.
•Tens of millions of dollars will be lost to the program every year for flood mapping, floodplain management and hazard mitigation. Each NFIP policy includes a federal policy fee that helps pay to maintain the nation's flood maps and to assist with floodplain management technical assistance. Significant income to the NFIP would be lost because private policies wouldn't contribute, yet the private companies offering those policies take advantage of the NFIP policy holder funded and taxpayer funded backbone of flood mapping and floodplain regulations.
•By delegating the determination of acceptable policies under the NFIP to the state, it could result in the creation of 50 different state standards for flood insurance requirements. Currently more than 20 states have private flood insurance legislation pending, many of them focused on making flood insurance cheaper even if it means higher risk exposure for the property owner or lender. For example, House Bill 678 in Connecticut introduced in January 2015 proposed that mortgage lenders shall not require flood insurance unless a property is located in a FEMA mapped SFHA. If the Connecticut bill were to become law, lenders would no longer have the discretion to require flood insurance in anything but a FEMA high hazard zone (because HR 2901 clearly disallows any standard conflicting with the laws of the states). Proponents will argue that this is just making NFIP like homeowners insurance. Flood insurance is not the same as homeowners insurance. Congress having chosen to retain authority over decisions about flood insurance policy equivalency and acceptability (current system), it has minimized the number and practical impact of even very wrongheaded state proposals.
•Increased taxpayer liability. The NFIP can't pick and choose which buildings to insure, as long as a community participates its citizens can buy federal flood insurance. Private insurance companies don’t work the same--they’ll be able to cherry pick the "best" risk (i.e., most profitable) policies out of the NFIP. That leaves the NFIP with the highest risk properties. The Government Accountability Office reported in 2004 that although repetitive loss properties accounted for 1 percent of NFIP policies, they represented 38 percent of the claims paid. How many of repetitive loss (much less severe repetitive loss) properties will be picked up by private flood insurers? How about Severe Repetitive Loss properties? If the NFIP ultimately becomes the insurer of last resort, it will virtually lock in subsidized rates for everybody because Congress has clearly shown that there is a limit to its tolerance for rate increases (HFIAA as a result of BW-12), and it will guarantee that the NFIP will have to be bailed out by taxpayers much more often because it will have less capacity to absorb large claim events (due to a smaller pool of the highest risk properties). Also, it is likely that dependence on disaster assistance will increase because property owners will opt for substandard private policies that ultimately won't cover their losses after disasters.
Importantly, the changes made in BW-12 to stimulate a private flood insurance market have worked. A private market is developing as we speak. No doubt some of you have heard of new policy choices. I noticed new sellers of private policies while recently attending the National Flood Conference in DC, and some insurance company representatives have visited the ASFPM executive office to discuss new offerings and get our feedback. It is an exciting time. All of this is being done right now, under the current program rules. At a recent meeting, it was reported that the number of companies offering private flood policies has doubled in the past two years. Private flood insurance has always been part of the NFIP, and we already have a robust excess market as well as a commercial and industrial private flood insurance market. Changes made in BW-12 have now stimulated a private flood insurance market for residential properties. The innovation, desire to share risk, and desire to encourage stronger community resilience are all welcome additions that the private sector can provide.
In its current form, HR 2901 goes much farther than just fixing the known obstacles to private flood insurance participation. It removes any requirements on what a private policy must be, puts the NFIP at a competitive disadvantage, and allows private sector policies to take advantage of the NFIP policy holder and taxpayer funded backbone of mapping and floodplain management without contribution. It could lead to the NFIP being an insurer of last resort. The seems to contradict congressional intent of Section 100239 of Biggert-Waters, which was to permit federal agency lenders to accept private flood insurance in satisfaction of flood insurance coverage requirements, provided private flood insurance had coverage comparable to NFIP policies (and this passed in Congress overwhelmingly). ASFPM is continuing to work to understand the ramifications of this legislation and to develop solutions that facilitate a future where private flood insurance policies are complementary to a strong NFIP to reduce flood risk in the nation.