HomeHome InsuranceWhy private flood insurance is a positive for FHA-secured mortgages

Why private flood insurance is a positive for FHA-secured mortgages

The closing days of 2022 saw positive policy developments that perhaps offer a path toward two important goals: more comprehensive protection for Texas policyholders and communities, and a sustainable property insurance market. Given the state’s recent history with storms and extensive flood damage, such change is badly needed.

In November, the Federal Housing Administration released a long-awaited rule that allows, for the first time, holders of FHA-secured mortgages to obtain private flood insurance in lieu of government insurance offered through the National Flood Insurance Program (NFIP). In the words of the Department of Housing and Urban Development, which oversees the FHA, the rule “would provide borrowers with more flood insurance choices … and harmonize FHA policies with the congressional intent … to encourage an expanded private flood insurance market.” More than 9% of all FHA mortgages are linked with Texas properties, so this change could help residents obtain more comprehensive and meaningful coverage.

Congress’ intent reflects concerns over the increasingly dire economics of the National Flood Insurance Program itself. Since Hurricanes Katrina and Sandy, the NFIP has had to borrow funds from the Treasury to pay claims and remain solvent. NFIP now owes more than $20.5 billion to the Treasury, and, according to FEMA, the program paid more than $280 million in interest on that debt in 2022 alone. This is simply not sustainable, particularly considering other concerns about the pricing and coverage limits of NFIP policies. The FHA has hopefully broken ground on a new approach in which the federal government encourages migration to private flood insurers to protect American taxpayers from an even greater burden.

Why is this important to Texans? First, according to the Texas Department of Insurance, only 14% of Texas residents have any protection against flood damage. In spite of this fact, the Urban Land Institute estimates that nearly 1.4 million Texas homes have a 26% chance of being severely affected by flooding over the next 30 years. Most of these properties are outside of NFIP’s mandatory coverage zones, so homeowners mistakenly believe their risk is low. Recent history belies this confidence. The Dallas-Fort Worth floods of August 2022 caused as much as $6 billion in damage, and the state has suffered more than $200 billion in aggregate losses from natural disasters over the past five years alone.

State capitols are likewise at the forefront of reform. In December, Florida legislators met in a special session to address the health of the property and casualty insurance markets in the wake of Hurricane Ian. Through a broad package of reforms, legislators made it clear that private markets are essential to distribute risk appropriately and protect taxpayers and ratepayers from footing the bill for unexpected losses. The state maintains both a public insurer of last resort known as Citizens Property Insurance and the Florida Hurricane Catastrophe Fund, a public reinsurer for hurricane-related losses. In its reform package, legislators made it clear that Citizens is a complement, not a replacement, for private property insurance.

Thanks to these nascent reform efforts, we may be moving closer to a more sustainable relationship between public and private insurance. The private insurance market has shown it can absorb even unexpected losses from catastrophe events through careful underwriting on the front end and the purchase of private reinsurance on the back end. Public insurers, by contrast, have tended to offer “one size fits all” policies that lack the underwriting sophistication of leading private insurers. More concerning, the response of public insurers, including Citizens, to rising reinsurance prices is to purchase less of it, which ultimately reduces their ability to pay claims to affected policyholders.

Actions by the FHA and Florida suggest the possibility of a new era in American property insurance — one in which public insurers work more closely with their private counterparts, recognizing the inherent limits of publicly funded coverage and encouraging policy migration to private companies. It is incumbent on legislators and regulators to recognize the value of the private market and protect American taxpayers from footing the bill for the next earthquake, wildfire or hurricane. A true partnership that recognizes the inherent limitations of government insurance will bring us closer to a future where American communities are more resilient and better protected against catastrophe.

Mac Armstrong is the chairman and CEO of Palomar Holdings, a specialty insurance company with expertise in catastrophe insurance. He wrote this column for The Dallas Morning News.

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