Given the vast number of proposals to close “the protection gap” offered by regulators, reinsurers, insurers, brokers and other industry participants in recent years, it is a wonder that it persists. But to many observers, it seems blindingly obvious that there are multiple protection gaps—functions of geography, known perils and other factors—some of which are explored in this article. And it seems equally obvious that neither insurance regulators nor insurers know how to close the gaps—or that they alone have the tools to do so.
There is a behavioral science principle, variously attributed, stating that if the only tool one has in hand is a hammer, every problem looks like a nail. After decades of fruitless attempts to close the protection gap in the United States, it seems likely that insurance education efforts, calls for lower-cost insurance products, or attempts to develop new insurance products are inadequate solutions to the challenge. To be sure, insurers and insurance regulators have roles to play. But we need to cast a wider net. This article is a step in that direction.
THE MOST RECENT GAP
After every natural catastrophe, one can rely on seeing press reports about the low take-up of insurance coverage that would have responded to the peril that caused the uninsured losses. The most recent examples of this were just last month, following epic rainfall and flooding in California, where we learned that approximately 98% of Californians were not insured for flood. Moody’s RMS estimated total economic damage from those December 2022 to January 2023 floods to be between $5 billion and $7 billion, with a range of insured losses between $500 million and $1.5 billion. AM Best’s report on California losses in mid-January 2023 noted that even for Californian homeowners with flood insurance provided via the National Flood Insurance Program (NFIP), coverage would be capped at $250,000 as compared with the state’s median home value of almost $685,000. So, even for properties with NFIP coverage, there will be insurance gaps, as there are generally around the country for homeowners who have not been boosting coverage limits to keep pace with increasing home values in recent years.
For homeowners in Florida and along the Gulf Coast, the flood and basic property insurance-coverage gaps are well known. Similarly, every time there is wind and water in the New York metropolitan area we find out how few homeowners carry flood insurance. In 2021, after Hurricane Ida and Tropical Storm Henri hit the US northeast, homes located miles from coastal floodplains were inundated. Tragically, a number of people living in basement apartments in Queens, New York, drowned. We also learned that “Among the roughly 10,000 homes in [the Jamaica neighborhood of Queens], just 16 were protected by flood insurance, according to a database compiled by the Association of State Floodplain Managers.”
There are huge protection gaps in various states—not just in California—for earthquake coverage. In California, the California Earthquake Authority (CEA) estimates that roughly 13% of homeowners are covered. West of the Cascades, where the Cascadia Subduction Zone presents major quake risk, the take-up rate of a little more than 13% is about the same as in California, according to a 2018 study by Washington insurance regulators. In the country’s other major earthquake-exposed area, the New Madrid zone, approximately 11.5% of homeowners in that multi-state region were covered for quake exposure, per a 2022 report from Missouri insurance regulators, with coverage down 49% from 2000 to 2021.
Despite mandatory vehicle financial responsibility laws, take a guess at the percentages of uninsured vehicles on the road: One in eight nationwide in 2019, with a high of 29.4% in Mississippi, 20.4 % in Florida (where third-party liability coverage is not mandated), 16.6% in California, 19.5% in Alabama and 8.3% in Texas. This is why roughly 40% of states mandate uninsured motorist protection.
How many Americans don’t have life insurance? Slightly less than half. (See this lengthy review in Forbes of life insurance take-up and the reasons why more people don’t purchase it (for 60% of those who do not, the primary issue is cost).
Despite these statistics, the proposals to close “the protection gap” keep coming from all and sundry. It’s time to get a grip on the situation, and the first step in doing so is to understand what led to the current state of affairs.
This week, Neptune Flood, an intermediary that offers private flood insurance (and also parametric earthquake coverage in several states) published the results of a survey, conducted in conjunction with the University of South Florida, seeking to answer this question: “Why don’t homeowners buy flood insurance?” The results?
According to the authors, the primary causes are as follows:
A misunderstanding that their home insurance policy covers flooding when it does not.
A perception that the risk of flooding at their home is lower than it really is.
The fact that flood insurance is often not mandatory, unlike home and auto insurance.
Explaining the survey results, Neptune Flood continued:
Among the 266 respondents who claimed not to have a flood insurance policy, the most cited reason (60.9%) was, “I don’t believe I’m at risk,” while 30.4% said, “It’s just not on my mind.” Almost 30% cited not having the disposable income, and 27.8% cited that flood insurance was too expensive.
HOW MUCH OF A FACTOR IS COST?
The issue of cost starts to get at an aspect of the debate about low insurance take-up rates that most commentators seem to skate right by. A recent Bloomberg News article reported on a survey that found that 64% of American consumers (166 million) were living “paycheck to paycheck” at the end of 2022, an increase of 9.3 million Americans from the end of 2021. A Bloomberg Business item from January 24, 2023, reported that one-third of US consumers could not afford a $400 emergency expense.
When asked to explain, after Hurricane Ida, why homeowners in Jamaica, Queens, were not insured for flood, one response was “[i]t’s not a rich community…. People try to save every dollar they have to do something else with it, instead of buying flood insurance.”
Based on these findings, it doesn’t appear too bold to offer cost or expense as one of the root causes for going without insurance. But it seems deeper than that. No matter how low the cost of some barebones or basic coverage is, many folks simply do not possess the ability to pay for coverage.
But there are almost certainly more root causes.
IGNORANCE IS FAR FROM BLISS
There is some percentage of Americans who apparently are simply unaware of the exposure they may face from one peril or another or do not appreciate the odds that their exposure may one day manifest itself in a loss-causing event. For flood exposure, some of the flood maps that the Federal Emergency Management Agency (FEMA) uses, or that banks use in determining whether a borrower must purchase flood insurance, are outdated. Since most Californians live within 30 or 40 miles of a fault line, it would be reasonable to assume that they have some awareness of exposure—but a 13% take-up rate statewide clearly suggests a lack of awareness.
Consumer education has not helped. Large percentages of insured homeowners—75%, according to the Neptune Flood/University of South Florida survey—erroneously believe their homeowners coverage includes flood protection. As one of the leading consumer advocates noted during a December 15, 2022, presentation (entitled “Addressing Flood Peril as Climate Changes: State Insurance Regulators Must Step Up to Offer A New National Strategy”) delivered at a meeting of the Property and Casualty Insurance (C) Committee of the National Association of Insurance Commissioners (NAIC), “[d]ecades of consumer education has not moved the needle on voluntary purchase of flood insurance.”
It is difficult to imagine that many Americans voluntarily visit insurance department websites or FEMA’s website to read helpful natural catastrophe risk awareness and risk management brochures prepared by regulators, government officials and consumer advocates, or that they visit insurer websites for their explanatory materials. Instead, what are we bombarded with? Commercial after commercial featuring Mr. Mayhem, or NFL stars being treated just like the rest of us by Jake when it comes to coverage, or the long-running series of ads (since 2008!) featuring Flo and her companions or, finally, the uniformed emu and human sidekick helping us buy only the coverage we need. These are what America sees and hears, week in and week out, about insurance products.
What would a “new national strategy” to increase consumer awareness entail? Perhaps one or more blitzes of professionally produced commercials and public service announcements on every imaginable media about natural catastrophes and homeowner-risk topics. Maybe a lottery game could be developed and launched to spark some interest—and bombard participants with those educational/awareness messages at every step of the way.
Regardless, exposure unawareness and ignorance of coverage afforded (and excluded) by homeowners’ policies would seem to comprise another root cause for going without appropriate insurance.
Giving consumers the “choice” to go uninsured for a peril they can’t meaningfully assess isn’t doing anyone a favor. Withholding the true cost of protection and the cost of maintaining a property isn’t doing anyone a favor and generates huge societal costs for everyone.
— December 15, 2022, CEJ Presentation (see above)
For more than 75 years we have, as a country, been developing and building—in hell-bent-for-leather fashion—along the Atlantic and Gulf coasts, particularly in Florida and in California. It doesn’t seem that we have missed any areas exposed to wind, storm surge, quake or wildfire—we’ve been building everywhere. According to Core Logic, in 2022 the aggregate value of wind- and storm-surge-exposed residential properties along the Gulf and Atlantic coasts was in excess of $10 trillion, up from roughly $2 trillion 15 years ago.
At the same time that we have been building and paving huge chunks of our country, we’ve been destroying or degrading parts of the environment—coastal wetlands, stretches of mangroves, barrier beaches—that used to provide a fair amount of protection to settled areas just inland from the coasts. In the western United States, we have been building in the “wildland-urban interface,” aka invading territory that is particularly prone to wildfires. In short, the supply of structures that are at risk has mushroomed since the end of World War II. Our collective ability to protect those structures has not kept pace, whether one speaks about land use policies broadly, zoning laws, construction codes, etc., or whether one considers insurance requirements.
Generally, mortgaged residential properties require property and flood coverages. Are those coverage amounts sufficient? Likely not, particularly with federal flood insurance providing maximum coverage at $250,000, as compared to median home prices of approximately $800,000 in the New York metropolitan area, $480,000 in Miami-Dade and $260,000 in Newport News, Virginia.
And quake coverage? Not mandated at all!
It has taken 75 years to get into “the protection gap” mess our country is in, and it is going to take us a while to extricate ourselves. Rising sea levels and more intense, more frequent weather events are going to complicate things and lengthen disaster-recovery periods. However, we need to heed the advice (political, to be sure, but equally applicable to the topic at hand) of a well-known 20th-century UK Labor politician, Denis Healey: When one finds oneself in a hole, the first thing to do is to stop digging.
So, once we put the shovels and pickaxes down on new construction in flood-prone and coastal areas—if we can do so—the task is to develop a list of priority projects to climb out of the hole and get them funded using varying combinations of public and private funds (depending on the project).
But even before that, we must use existing technology to maximize our understanding of risk exposures and enhance our ability to adjust as exposures change over time.
Second, we need to develop insurance coverages that are, as our friends in the United Kingdom say, “fit for purpose.” For starters, at the risk of continuing to breach the most fundamental principle of insurance that the losses of a few should be paid by the many, the coverages need to be universal. Homeowner policies should provide coverage for ALL natural catastrophe perils. We need to leave behind the dead end of “adverse selection,” in which those on high ground don’t buy flood insurance; indeed, we can’t even persuade most folks in low-lying areas to do so. Yet, as FEMA’s website advises, since 1996, flood events have occurred in 99% of US counties. To be sure, we will need to recognize that for some perils (e.g., earthquakes) there are locations in which, objectively, there is no exposure or only really low exposure. So, might it be possible to set a low minimum premium for structures in those locations? Some of us will pay not so much; others, using risk-based pricing, will have higher premiums. But there is no free lunch here. And for those of us able to foot the bill for mandated coverages (i.e., for those with second (or third) homes to protect), there would be no subsidies. For those unable to foot the bill, there could be subsidies that reduce over time.
For insurers aghast at the prospect of aggregate exposures that reach to the stratosphere, we will need regional and/or federal natural catastrophe insurance backstops—perhaps peril by peril, perhaps multiperil—that offer protection above reasonably robust estimates of damage that will be caused by mega-events.
Then what? Repetitive loss properties? Why not start with those that have produced the most losses over a period of time, buy out the owners, and begin relocating homes and businesses?
The most exposed coastal and riverine properties? Why not develop a plan that looks ahead 50 or 75 years to gauge whether projected rising sea and river levels make it likely or unlikely that “reasonable” adaptation measures will succeed and can allow the structure to remain in place? For homeowners in reasonably “safe” locations, why not offer tax incentives to fortify/retrofit homes against whatever perils pose threats in particular locations (in the same manner that we are now offering tax incentives to install solar panels or purchase electric vehicles)?
To conclude, the multiple insurance protection gaps that we confront in the United States have grown over time, fed and impacted by a variety of factors, including unchecked, unregulated property development, poorly understood risk exposure, individual and family financial pressures, and severe natural catastrophe events that are increasing both in frequency and in the amount of damage they cause. To shrink protection gaps and increase resiliency for society as a whole will require, over reasonably long periods of time, an array of fixes that only coordinated efforts by federal, state and local legislators, state insurance regulators, and insurance-industry participants will be able to develop and apply, collectively.