NFIP Privatization Faces Flood of Modeling, Mapping, Financial Hurdles

Renewal of legislation backing the U.S. National Flood Insurance Program (NFIP) promises to “study” private market reinsurance capacity to support the $1.8 billion program, but there is very little industry appetite for the risk without massive limitations and a complete risk overhaul to transform it into profitable business.

On Friday the Senate passed its version of NFIP renewal, which was attached to a transportation bill. The legislation extends the program for five years and, among other reviews, calls renewal calls for a “study” of private market solutions for U.S. flood risks.

But private insurers and reinsurers continue to balk at covering U.S. flood risks for several reasons, including catastrophe model and mapping issues to actuarially suppressed rates that will cut into margins, according to a report issued earlier this year from Standard & Poor’s.

“The NFIP has [illustrated] the difficulty in producing current and accurate modeling for flood exposure,” the S&P report says, adding that FEMA’s multiyear “mapping modernization” program started earlier in 2003 has fallen short. Over 70% of maps used in the U.S. to map flood plans were more than a decade old, according to 2011 report from the Congressional Budget Office (CBO) cited by S&P.

The S&P report adds that private catastrophe modeling firms could step into the market to update the maps, but in a classic chicken and egg conundrum they have “little incentive” without the promise of private insurance company customer base.

Separately, despite the fact that the NFIP renewal allowed rates to increase as much as 20% (from an increase cap of 10%), nearly one million flood insurance policyholders continue to pay only 40% to 45% of actuarial rates, according to the CBO. Pushing them into high private market premiums could severely limit take-up and actually decrease demand in the private market.

“Amid high unemployment and general economic downturn in the U.S., insuring for a 100-year flood may not be the highest priority for policyholders–especially if premiums more than double to their true actuarial rate,” the S&P report says. “Additional private insurer pricing increases could come from the need to cover the cost of capital and generate a profit for shareholders–a task with which the federal government is not charged.”

In fact, a key change that allowed the NFIP to move forward in Congress is a major disincentive for private market.

The original bill mandated that communities surrounded by levees pay a similar rate as those within the 100 year flood plan, arguing that levees were subject to “human error.” But the provision was stripped from the legislation after U.S. Senators Mark Pryor (D-Ark.) and John Boozman (R-Ark.) objected, arguing that their constituents should not be forced to purchase flood insurance.

“We have some of the best levees in the world that have never once been breached. It simply doesn’t make sense to ignore these taxpayer investments, and arbitrarily force these families to fill [the Federal Emergency Management Agency]’s coffers through an unnecessary flood insurance mandate,” Pryor said in a statement.

Having large communities behind possibly faulty levees – paying the same as non-flood plain policyholders – will mean a significant portion of the U.S. may pay actuarially unsound prices, adding another disincentive to the private market.

“Landscapes are constantly changing due to development, and protective levees are susceptible to human error,” the S&P report added.

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