Flood underwriting changes increase affordability

A new study concerning flood insurance policy, with any changes disproportionately affecting Louisiana, creeps closer to more appropriate pricing but still falls short of the optimal option.

The Federal Emergency Management Administration, using Census data, compared income data and current pricing to investigate whether to revise rates on affordability criteria. The National Flood Insurance Program chronically has run in the red, prompting changes over the past several years but remains in flux as Congress can’t decide how to alter matters to put it in balance.

The report noted nationally that policyholders earned about half again what non-policyholders made. This suggests an affordability issue, confirmed in that in flood-prone areas twice as many low-income households don’t have insurance than do, with a smaller gap in other areas, while the ratio roughly is reversed for those of higher incomes.

While nationally those with lower incomes were more likely to live in flood-prone areas, that was the opposite in Louisiana. This likely comes from the state’s reliance on its rivers and maritime geography to generate wealth, with inland areas away from water transport producing less economic output.

In part, these distributions come from that fact that flood insurance prices only indirectly tie to the actual property value. In low- to- moderate-risk areas, rates depend upon choices of coverage made by buyers and can be as low as $100. However, in high-risk areas a variety of factors come into play, such as year of construction, elevation, and history, which can send rates dramatically higher. Note that actual value of the property makes no difference. Further, the existing rate structure for flood-prone areas tends to raise relative costs on households worth fewer than $60,000 as compared to those above.

This skew in buying insurance by income likely derives from households without mortgages – as residences in high-risk areas must have it if borrowing from a financial institution – disproportionately comprised of inherited properties and/or elderly owners. In these stations in life, families may not be able to afford moving to at least comparable property, and even with the resources to maintain the property and pay taxes on it, some households may find it financially burdensome to pay for flood insurance. Additionally, the recent practice of federal disaster bailouts – with Louisiana a tremendous recipient of these after the hurricane disasters of 2005 and somewhat less so after the flood disasters of 2016 – may discourage such households from paying for insurance.

Yet the statistics show a number of them do. All of these considerations lead to some possible reforms, ordered below in order of comprehensiveness, that could make flood insurance more affordable to lower-income households without significant cost-shifting onto others.

First, FEMA should scrap its $60,000 base rate calculation that presently skews costs and further open up private sector underwriting while refusing to make future disaster relief appropriations. The changed calculus and disincentive to freeriding that encourages a broader ratepaying base should decrease rates for many more lower-income households than the opposite.

Second, assessed property value could become part of the equation, thus removing the insurable cap. Instead of giving owners tiers or deductible options, tie in the house’s value to the rate, with a factor for rebuilding cost built in. For many low-income owners, this would decrease rates while it could increase these for some higher-income households – although many of them overall may pay less, because with current policy caps many buy additional private insurance to make sure their homes are fully covered that they could forgo with this reform.

Third, as previously recommended, make flood insurance mandatory for every homeowner, with rates according to risk and value. Some will pay rates perhaps as low as a dozen bucks a year, but with everybody paying, rates for current policy-holders likely would go down across the board, except perhaps for very expensive homes in risky areas. But as income and home value are strongly related, this, as well as in the case of the second option, makes sense in terms of ability to pay.

These changes would create a fairer playing field than would options like discounts built in regardless of income or direct subsidization to encourage purchasing by low-income households for which others will pay, while achieving goals of greater utilization and pricing more attuned to value and household ability to pay. Alternatives such as these Louisiana’s members of Congress must seek as the institution crawls towards a lasting programmatic reform.