Insurance used to be so (yawn) boring—a mere line item on your real estate investment spreadsheet. But, for investors dealing with properties in potential target zones of natural disasters, that is no longer the case. Catastrophic disasters are transforming homeowner’s insurance in high-risk areas. If your property is at risk for hurricanes, tornados, flooding, earthquakes, mudslides, drought, and wildfires (many are human-caused: but the Environmental Protection Agency classifies these as natural disasters) please keep reading!
Alabama, Arkansas, California, the Carolinas, Colorado, Florida, Georgia, Iowa, Kentucky, Louisiana, Mississippi, Missouri, Nebraska, New York, Oklahoma, Oregon, Texas, and Washington. In these states, among others, the cost and availability of homeowner’s insurance is, or may soon be, a determining factor in where you invest.
From a beachfront cottage in the south to an A-frame cabin in the Rockies, to a cliff side property on the West Coast, your ability to get property insurance at a price that makes sense for your project budget, or get it at all, is not a given.
That’s why, as investors, the due diligence we need to do on homeowner’s insurance is more important than ever.
Catastrophic Disasters, Rising Insurance Losses and Homeowner’s Insurance
The increasing cost of these types of catastrophic disasters is transforming homeowner’s insurance, causing insurance companies in many states to review their approach.
Melanie Gall is an Assistant Professor and Co-Director of the Center for Emergency Management and Homeland Security at Arizona State University. She studies disaster losses and manages the Spatial Hazard Events and Losses database (SHELDUS), a tool to help demonstrate what natural disasters are costing your community. (SHELDUS is one part of FEMA’s National Risk Index, an online tool and map that illustrates the United States communities most at risk for 18 natural hazards.)
Notes Gall, in an article she wrote for The Conversation, “Insurers have been retreating from high-risk, high-loss markets for years after catastrophic events … As losses from natural hazards steadily increase, research shows it’s not a question of if insurance will become unavailable or unaffordable in high-risk areas—it’s a question of when.” (See ASU’s summary of U.S. Hazard Losses from 1960 to 2020.)
Reports Bloomberg writer Stephan Kahl, in a recent article titled, Insured Losses Hit $120 Billion as Extreme Weather Spreads, “The insurance industry is struggling to adapt to a new normal in which losses fueled by climate change are now regularly exceeding $100 billion a year.” (For comparison, total global losses prior to 2005 were under $50 billion a year.)
The chart below shows the global losses because of natural disasters (2013-2022). The total loss in 2022 was $270 billion, with insured losses of over $130 billion. The U.S. accounted for a lot of those losses, particularly from Hurricane Ian, which hit Florida in September 2022 and which, according to global insurance firm Aon’s 2023 Weather, Climate and Catastrophes Report, caused insured losses of at least $52 billion.
(Chart Source: Munich RE)
It is no surprise that some of the costliest natural catastrophes in the United States have been tropical cyclones, especially North Atlantic hurricanes. Following are the approximate insured losses from major hurricanes since 2005, and a chart showing the increase in major hurricanes in the North Atlantic.
2005: Hurricane Katrina: $98 billion
2008: Hurricane Ike: $25 billion
2012: Hurricane Sandy: $39 billion
2017: Hurricanes Harvey ($36 billion), Irma ($36 billion), and Maria ($36 billion)
2021: Hurricane Ida: $39 billion
2022: Hurricane Ian: $53 billion
(Chart Source: Colorado State University)
The Reinsurers and High Risk
The issue is not solely the consumer-facing insurance companies. Catastrophic disasters are also transforming the insurance companies’ insurance companies—the “reinsurers.”
Reinsurers help insurance companies mitigate their risk. But, they are raising their prices to insurers based on their own risk and loss. Individual insurance companies must struggle to balance out their risk through the reinsurer. The individual insurers may carry that risk on their own, but it makes them more vulnerable to a major disaster. That could put them out of business.
None of this is going in a good direction.
Munich RE is one of the world’s largest insurers and reinsurers for other companies. On the company’s website, Thomas Blunck, Member of the Board of Management, commented, “Climate change is taking an increasing toll. According to the latest research, events dominating the natural disaster figures for 2022 are more intense and/or occurring more frequently.
“Severe storms like Ian fit in with the anticipated consequences of climate change: most researchers do not expect an increase in the overall number of tropical cyclones as a result of global warming. However, they do anticipate a rise in the proportion of particularly severe cyclones with exceptionally heavy rainfall.”
Blunck notes that these elevated insured losses come when insurers are dealing with high inflation and rising interest rates.
Some Homeowner’s Insurance Companies Calling It Quits
Natural disasters have already put many insurance companies out of business. Reports Bloomberg Insurance Correspondent, Daphne Zang in a December 2022 article, “More than eight insurance companies in Louisiana went broke in the past year, according to the state Department of Insurance records. The last 17 months have seen more insurer insolvencies than in any other 17-month period across the country, according to rating agency AM Best.”
In some states, like Florida, natural disasters are exacerbating an already tenuous situation for insurers. Explains Zang, “The story is messier in Florida, which has the highest number of insurance insolvencies in the country due to several factors cited by industry analysts: frequent hurricanes, lack of reinsurance support, bad risk management, excessive litigation, and fake claims.” In fact, a recent Bankrate article reports that although Florida accounts for 9 percent of the U.S. home insurance claims, it is home to 79 percent of its home insurance lawsuits, many of which are bogus.
(For more on the insurance situation in Florida, read this informative BiggerPockets article titled, This is the Hardest Property Insurance Market Ever-What’s Forcing Carriers to Pull Out in Droves?)
Insurers Who Stay are Rethinking Policies
Some insurance companies left insuring in high-risk areas are rethinking their policies and rates. Some are just leaving a state altogether.
Reports Bloomberg’s Zang, “Large carriers have attempted to limit exposure by dropping policyholders in fire-prone regions of California, Washington, Montana, and Colorado since 2019. American International Group, Inc. and Chubb Corp. said earlier this year they are cutting home policies in California due to wildfires to manage earnings volatility.”
Allstate and State Farm stopped accepting new applications for business and personal lines property and casualty insurance in California. State Farm’s statement said they made the decision “due to historic increases in construction costs outpacing inflation, rapidly growing catastrophe exposure, and a challenging reinsurance market.” Farmers Insurance recently announced they will limit the number of policies they offer in California.
When Homeowner’s/Investors Can’t Get Insurance
Home insurance is integral to investors looking for funding. Investment lenders want their collateral insured for potential damage. Investors who purchase a property with cash carry an investment risk of total loss, should there be a catastrophic event. When homeowners cannot get insurance, it impacts their ability to buy a home.
As catastrophic disasters continue to transform homeowner’s insurance in high-risk areas, these pressures become more pronounced.
State-Funded Plans and Private Insurers
Many states are now setting up state-funded or private insurer plans for high-risk location homeowners.
Over 30 states have some type of “last resort” plan. These plans are also referred to as FAIR plans and Beach and Windstorm plans, for property owners. These policies are often less optimal for homeowners, as some provide only temporary coverage, and some have higher costs and more stringent terms for homeowners. The latest state to consider a bill for a last-resort insurance option is Colorado. The state is anticipating issues for homeowners getting insurance because of recent wildfire losses, both in the mountains and in some urban areas.
However, these types of plans create their own issues.
In Texas, reports Climatewire, smaller insurers in hurricane-prone areas like the Texas coast have become insolvent or stopped coverage, creating major growth in the region’s state-chartered insurance programs. The insurance crisis, it reports, is requiring “tens of thousands of coastal homeowners to buy policies from a state-chartered insurance program. The rapid growth has alarmed officials and insurers. And it’s raised concerns that if a major storm hits Texas, so many claims will be filed that the state-chartered insurer will force insurance companies and residents statewide to help pay them.”
Louisiana is also struggling, reports Climatewire in the same article, with 11 insurers insolvent and 12 others submitting withdrawal notices, its state-chartered insurer’s policy count tripled in 2022.
High-Risk Areas Homeowner’s Insurance: What Should Investors Do?
All of these trends are concerning for investors. As catastrophic disasters continue to transform homeowner’s insurance, what can you do if you have, or want to have, investment properties in areas prone to natural disasters?
First, be aware that things are changing on many levels, including among Washington lawmakers who are growing concerned about the issue. Reports Deloitte in their 2023 Insurance Regulatory Outlook, “Legislative inquiries into the effects of extreme weather on increasingly vulnerable consumers will likely find firm footing in 2023…”
Be prepared that some of these changes could bring a tighter availability of homeowner’s insurance where you are located, along with more regulation or oversight to building and/or owning properties in high-risk areas. It could also impact buying and selling in those areas.
Here is a list of things to keep in mind:
- Know if you are in a high-risk zone. How? Talk with local administrators and insurers to learn all you can about your property and its risks. (See below for list of online tools to help!)
- Do not underestimate the impact of a catastrophic event on your investment, especially a short-term rental. Understand that, even if your short-term rental home survives a hurricane, the devastation in the surrounding community takes time to rebuild, and your rental income can be wiped out for a year (or more) until local tourism comes back.
- Put insurance cost and availability at the top of your due diligence list. Make sure that you can get insured for your property, and that it makes sense for your bottom line.
- Keep abreast of the insurance situation in your area by talking with trusted and knowledgeable insurance agents.
- Stay informed about any local, regional, state-wide, or federal government actions that may impact your investment area.
- Be informed about what insurance is available for different types of home structures. (e.g. insurance companies in hurricane-prone areas may be willing to insure a concrete home, but not a stick-built home).
- Be aware of any additional codes being proposed in permitting guidelines, such as more stringent building codes and safety standards for building in floodplains, coastlines, and wildfire-prone areas.
- Be aware of any discussions about future real estate contractual issues that could impact buying and selling a property (e.g., that could allow buyers to withdraw from a contract if they cannot get insurance, etc.)
- Understand your insurance policies in detail, and what they cover in each case of a natural disaster.
Here are some online tools to help you.
First Street Foundation: Flood Factor
A free online tool to see if a property has flooded from major events in the past, is currently at risk, and how the risk changes over time. It also helps estimate damage costs associated with flooding and community risk.
FEMA Flood Map Service Center (MSC)
The official source for flood hazard information includes finding your official flood map and understanding flood risk.
Online tool to get an instant risk assessment of how climate change will affect your property.
FEMA’s National Risk Index, an online tool, and map that illustrates the United States communities most at risk for 18 natural hazards.
National Centers for Environmental Information
interactive maps showing disaster cost and frequency, as well as weather and climate risk hazards searchable by U.S. counties.
Sidenote: Flood vs. Hurricane Insurance
How homeowners’ insurance policies interact with natural disasters is complex. Different scenarios require different coverage, and coverage across states may differ, as well. Be sure to have a trusted insurance agent who can guide you through the nuances of these policies.
As an investor, it is important to understand that flood insurance is a separate policy from your regular homeowner’s policy. You can usually purchase it through private carriers, or the National Flood Insurance Program (NFIP). It is typically required if you have a government-backed mortgage and live in a flood zone. The policies normally have a 30-day waiting period before they take effect (although private flood insurance may offer faster activation times).
Even if you are not in a flood zone, you may need flood insurance
Also, talk to your insurance agent about whether you should have flood insurance, even if you are not in a flood zone, as flooding can happen anywhere, (in fact, floods are the most common natural disaster in the U.S.), and a small amount of water can cause a large amount of damage.
Also, flood insurance is NOT “hurricane” insurance. Flood insurance primarily covers damage caused by broken pipes and plumbing issues, and water damage caused by flooding. Damage caused by hurricanes (excluding flooding), may be part of your homeowner’s policy, or it may not. Your policy may specifically exclude wind damage, in which case you will need a separate policy.
The coverage provided by homeowner’s insurance for hurricanes, and how that relates to flooding, depends on the specific policy.
Catastrophic Disasters vs. High-Risk Homeowner’s Insurance: Moving Forward
As catastrophic disasters are transforming homeowner’s insurance, the insurance industry for homeowners insurance in high-risk areas is no longer the slow-moving industry that it was in the past. The growing impact of natural disasters is giving the overall industry significant challenges in managing the risks associated with natural disasters.
Those challenges require the industry to respond quickly, and changes are happening in many states.
As investors, be aware of what is happening now in the industry in relation to those high-risk areas. Are you planning to do a build-to-rent on the Florida coast? Check your insurance options and costs upfront.
Research your level of risk and coverage for natural disasters using the tools above and the expertise of your real estate team and monitor legislation that may come down the pike in those areas in relation to mitigating the potential insurance shortfalls.
Finally, take nothing in your insurance policy for granted. Have an insurance agent who you trust to keep you on top of any changes in your specific area.
As an investor, it is more essential than ever to be tuned into your homeowner’s insurance and to understand your risks and coverage to protect yourself from the havoc caused by natural disasters, no matter where you choose to invest.
If you need help with funding for a project in a high-risk area, get in touch with us to talk about it!