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Why is the federal government in the flood insurance business?

  • Each year the federal government spends billions of dollars on disaster relief to flood victims – all at taxpayer expense.
    • Floods claim more lives and property than any other natural disaster.
    • Flood disasters have been declared in every state in the past 5 years alone.
    • Floods are not only coastal issues; they occur nearly anywhere, anytime.
    • Flood zones exist along rivers, lakes, creeks, as well as the coasts.
    • Flood losses (25% of claims) come from outside of the “flood zones.”
  • If more properties were insured for flood damage, fewer owners would turn to taxpayers for disaster relief after the next major flood.
  • The problem is misinformation keeps the private market from meeting the demand for flood insurance.
    • ‘It’s a lemon’ – just one flood can bankrupt insurance companies so they will set rates high to cover their losses.  However, few property owners will see flood insurance as worth buying since they believe they’re being over-charged.
    • ‘Never flooded’ – Even where there is a 2% annual flood risk (very high), a property still has a 50/50 chance of not flooding over 35 years.  It is human nature not to believe a risk until there is a flood – no matter how accurate and reliable the risk communication.
    • ‘Costs too much.’  Because only the “high-risk” properties will tend to buy (i.e. “adverse selection”), it will distort the market and drive up rates until no one – not even those who flood repeatedly – can afford the flood insurance.
  • The National Flood Insurance Program (NFIP) provides an insurance market alternative to taxpayer-funded disaster relief.
    • Reauthorized to issue flood insurance every 5 years or the program terminates.
    • Purchased through private insurance companies but administered by the Federal Emergency Management Agency (FEMA) which sets rates and coverage terms.
    • Reduces the information barrier by mapping the flood risk and rating communities.
    • Requires flood insurance for a federally backed mortgage where there is a 1-in-4 chance of flooding over 30 years (i.e., a 1% annual risk).
    • Prevents cherry picking in communities that participate in the NFIP.
    • Averts billions of dollars in property damage each year because communities must adopt and enforce flood building codes and standards as a condition for joining NFIP.
    • Enables 5.5 million property owners in 20,000 communities to protect themselves rather than relying on taxpayers so history won’t repeat itself.  See NFIP’s chronology

Why is the NFIP nearly $30 billion in debt to the Treasury?

  • Historically, the NFIP has been self-sufficient, bringing in more premiums than it paid out for most of its history.
  • Then Hurricane Katrina struck in 2005, and the program had to borrow from taxpayers in order to cover several catastrophic loss years in a row.
  • However, this loan must be fully repaid plus interest to compensate taxpayers – which costs less than disaster relief grants and loan subsidies which will never be repaid.
  • Recent reforms to NFIP will put the program back on the path to self-sufficiency according to the Congressional Budget Office.
  • Taxpayers are still “on the hook” for the $30 billion if NFIP ends, but a terminated program won’t be able to generate new premiums to help reduce the loan balance.

Are some states cross subsidizing others?

  • No state is paying more so others can pay less for flood insurance – that’s a myth.
  • No property owner is paying more than the full cost for NFIP to insure their property.
  • It is true that 20% are paying less than full cost and NFIP borrowed from taxpayers to make up the difference, but this is phasing out by law and taxpayers are compensated with interest.
  • Comparing average statewide premiums is misleading; see this example of a coastal state that is paying a higher rate but its statewide average is still less than an inland state’s.

Are some states paying more in premiums than they get back in claims?

  • That may appear to be the case if one simply subtracts historic payouts from payments…
  • …But historic data won’t predict record-breaking events like the Midwest floods in 2011.
  • Just because a state has dodged the flood “bullet” for 40 years doesn't mean its luck won't run out tomorrow.
  • Mandatory purchase flood zones are drawn where there is a 1% annual risk, which won't change after 40 or 400 years.
  • All it takes is one major flood in a population center to wipe away any state "surplus."
  • Just ask the Gulf Coast before Hurricane Katrina or New England before Sandy.

What about recent reports of an emerging private flood insurance market?

  • Private insurance companies are cherry picking from the NFIP.
  • Compared to NFIP’s 5 million, these companies wrote 260,000 policies focusing on million-dollar homes and not on the first $350,000 of coverage, according to the GAO.
  • By underwriting the risk property-by-property, some companies:
  • May be able to pick off some lower-risk properties in NFIP community-level flood maps (FEMA rates communities, not individual properties).
  • Will charge a premium that includes a normal rate of return and accounts for costs like taxes and reserves which NFIP doesn’t pay.
  • Even the private companies will tell you they can’t insure all 5.5 million NFIP properties.  They will exclude, raise rates or drop coverage after a property floods.
  • Also NFIP considers this a “coverage lapse” so properties won’t eligible for a lower rate if they leave the program and a private market policy doesn’t work out.

Chronology of Major Flood Events

2014 "Grimm-Waters" Act will correct the severe implementation problems from the subsidy phase-out, but first FEMA must implement these provisions.
2013 Superstorm Sandy strikes New England; NFIP borrowing now totals $24 Billion.
2012 "Biggert-Waters" Act reauthorizes NFIP through 2017 and will gradually phase-out subsidies for all older properties, including those with severe repetitive losses.
2008-12 NFIP extended 18 times and twice allowed to shutdown stalling 40,000 home sales a month.
2005 Hurricane Katrina strikes the Gulf Coast becoming costliest hurricane in U.S. history; NFIP borrows $17 billion from taxpayers to cover claims from the 2005 storm season.
2004 "Bunning-Bereuter" Act reauthorizes NFIP through 2008 and attempts to phase-out subsidies to the 1% of properties with "severe repetitive losses" accounting for disproportionate share of NFIP claims; however, loopholes prevent full implementation of this pilot project.
1994 NFIP amended to strengthen lender enforcement of the mandatory purchase requirement.
1983 NFIP supplemented through Write-Your-Own program which allows NFIP to continue setting rates and coverage terms but contract with private insurance companies to service individual policies on FEMA’s behalf.
1973 NFIP amended to require flood insurance for a mortgage in the mandatory purchase zones.
1968 NFIP created as insurance alternative to rising cost of fully taxpayer-funded disaster relief.
1965 Hurricane Betsy strikes Gulf Coast becoming first in U.S. history to cost a billion dollars.
1956 Federal Flood Insurance Act authorizes program which isn’t funded; the American Insurance Association finds that flood insurance is not commercially feasible.
1950 Disaster Relief Act creates the first permanent system for post-disaster aid.
1930-50 Government funds a series of flood-control projects and flood-specific disaster loans.
1929 Private insurance industry abandons coverage of flood losses.

For the complete chronology, here is the original FEMA report

Also read NAR’s recent legislative analysis, or learn more about its political advocacy efforts.