Since 1968, the National Flood Insurance Program has offered flood insurance to consumers.1 The program was launched with two primary goals, one to reduce the financial impact of flooding and the other to assist in protecting property owners. Arguably, the program has been a success insofar as it has remained in place, offering basic coverage for over 50 years. However, the program has remained practically unchanged during this time. But now we are seeing significant changes in how policies are underwritten, offered, and priced.
“Risk Rating 2.0” is the Federal Emergency Management Agency’s (FEMA’s) title for its long overdue platform for underwriting and pricing flood insurance. The new rating platform utilizes a combination of historical data from both public and private sources along with sophisticated computer-generated algorithms and catastrophic models to generate more accurate estimates on a property’s potential to suffer flood damage.
Insuring against Flood Risk
Approximately 95% of all homeowners have homeowners insurance, whereas only 12% have flood insurance. This discrepancy becomes more troublesome when you consider that the 12% is down from 14% only a few years ago.2 Also consider that 90% of all natural disasters in the United States involve flood damage.3 So why are so many property owners not insured against flood risk? Reasons given for not purchasing flood insurance include it being too expensive, thinking it was already included in the existing homeowners coverage, underestimating the risk of flood damage, and assuming the federal government would simply pay for flood damage.4
The National Flood Insurance Program covers different types of buildings with different limits available for each.5 For a single-family home, duplex, triplex, and fourplex, the maximum coverage available is $250,000 for the dwelling or structure and $100,000 for the contents. Other residential buildings can get up to $500,000 in building coverage and $100,000 in contents coverage. Finally, nonresidential businesses can obtain $500,000 in building coverage and $100,000 in contents coverage.
Examining further what is covered for each type of limit provided, we can break down the dwelling or structure coverage and contents coverage.6 Building coverage protects things such as electrical and plumbing systems, furnaces and water heaters, refrigerators, cooking stoves, and other built-in appliances. It also includes coverage for permanently installed carpeting, cabinets, paneling, bookcases, and other attached items such as window blinds. Also included in building coverage are foundation walls, anchorage systems, stairs, fuel tanks, well water tanks and pumps, solar energy equipment, and even detached garages.
Contents coverage includes personal belongings such as clothing, furniture, electronic equipment, washers and dryers, window air conditioning units, microwave ovens, carpets that are part of the dwelling (e.g., installed over wood floors), and even original artwork and furs, although the limit for contents coverage is only $2,500.
The National Flood Insurance Program, however, does not offer all of the coverage many homeowners would like to have, some of the most obvious being additional living and relocation expenses and coverage for the financial losses caused by business interruption. Program coverage also does not extend to pools or personal property kept in basements.
The limits of program coverage are insufficient to cover replacement cost on most structures. This too may have added to the lackluster demand for National Flood Insurance Program policies.
In 2019, new regulations required banks and other financial institutions loaning money for properties to accept flood insurance policies offered by private insurers.7 This opened markets to private insurers to offer flood insurance policies of their own design under a provision in the National Flood Insurance Program’s Write Your Own Program.8 This option permits private insurance companies to sell their own flood insurance policies. These policies vary significantly in coverage, cost, and availability. Private insurers change their offerings frequently.
Flood Damage and Claims
Before addressing recent changes to the National Flood Insurance Program, let’s review statistics and facts about flood damage:
- Floods have worsened across large parts of the Northeast and Midwest.
- Flood magnitude has generally decreased in the West, Southern Appalachia, and Northern Michigan.
- Large floods have become more frequent across the Northeast, Pacific Northwest, and northern Great Plains.
- Rivers and streams experience flooding as a natural result of large rainstorms or spring snowmelt that quickly drains into streams and rivers.
- Large flood events can damage homes, roads, and bridges and destroy crops.
- Climate change may cause river floods to become larger or more frequent occurrences.9
The National Flood Insurance Program has created guidelines for submitting claims.10 Claim requirements, as set forth by FEMA, should be clear to insureds and their counsel. The guidelines state that first an insured must report the loss. A five-step process then follows:
Step 1: Compile invoices from appliance repairers with appliance serial numbers. This is to assist claim examiners in determining the type of property involved in a loss.
Step 2: Obtain and provide receipts of repairs that were made after any prior flood loss. This step is necessary when there has been a previous claim and is done to avoid duplicate payments for the same damage.
Step 3: Separate damaged property from undamaged property. The analysis of flood damage claims tends to be relatively granular, meaning that while some items may be literally submerged, others may be relatively untouched by the water.
Step 4: Make a list of all damaged belongings if you have contents coverage. Coverage purchased from the National Flood Insurance Program is à la carte. If personal property coverage was obtained, a list of the damaged items should be created.
Step 5: Take pictures or videos of damaged property before removing it from the location. This may be the most important step of all. One of the top reasons for flood insurance claim denials is lack of proper documentation. Many skip this step, discard damaged property, and then report the loss to the insurer. Be aware, insufficient documentation may be grounds for the entire claim to be denied.
FEMA also requires the insured to guard against future losses. Most National Flood Insurance Program policies include increased cost of compliance coverage, which applies when flood damage is severe. If your community declares your home “substantially damaged” or a “repetitive loss property,” bringing the home to current community standards may be required. If the damaged building qualifies for this coverage, up to $30,000 to cover the cost to elevate, demolish, or relocate the home may be available.11
Private Flood Insurance
While it is important to be familiar with the FEMA-backed flood insurance policies, it is also important to be aware of alternative policies available in the marketplace. When considering whether an agent or broker acted within the standard of care for a client, it may be necessary to see if options that provide more coverage than FEMA’s program were discussed.
For example, a privately owned flood insurance company called Neptune Flood offers a flood insurance policy that provides significantly more coverage than FEMA’s program does. They are not alone. In 2017, private flood insurers grew by more than half to reach 15% of the total flood insurance policies sold.12 In reviewing one of Neptune’s policies, it is not difficult to understand why. Whereas the National Flood Insurance Program offers coverage for dwelling and personal property, Neptune offers more, including dwelling limits to match the true replacement cost of the home, even if the dwelling is insured for several million dollars. Personal property is covered up to $500,000, and at full replacement cost. Coverage can also include $10,000 for pool repair and costs of temporary living expenses.13
With competing policies available, consumers have more choices and can select what makes the most sense for them. Where some may be comfortable with basic coverage from FEMA, especially with the Risk Rating 2.0 costs being lower than ever in most instances, others may opt to have a more complex and comprehensive policy that will act more like a standard homeowners insurance policy, albeit covering the peril of flood where basic home insurance policies specifically exclude it.
The New Risk Rating 2.0
In recent years, National Flood Insurance Program losses have increased and surpassed premiums collected.14 Now we enter the new realm of the National Flood Insurance Program Risk Rating 2.0. By utilizing the Risk Rating 2.0 platform, premiums will more accurately reflect the actual flood damage risk a property has. The new program will allow FEMA the ability to utilize additional risk variables in its pricing models, including flood frequencies, multiple flood types—river overflow, storm surge, coastal erosion, and heavy rainfall—and even distance to a water source.15
The National Flood Insurance Program has just over five million policies in force.16 These policies provide over $1.3 trillion in coverage. The overwhelming number of people who have a current flood insurance policy are going to find themselves paying either less money under the new Risk Rating 2.0 guidelines or just a bit more (see fig. 1).
Under Risk Rating 2.0, estimates show that only 4% of existing policyholders will see an increase of $20 or more per month, while almost a quarter of all policyholders will see a premium decrease. Many who fall in the middle are looking at a modest increase of between $10 and $20 per month. Those insureds who get either a premium decrease or an increase of only up to $20 per month comprise 96% of all existing policyholders. Figure 2 lists the number of National Flood Insurance Program policies by state and expected changes with premiums.
Phase one of Risk Rating 2.0 for newly written flood insurance policies started on October 1, 2021, and will continue through March 31, 2022.17 In this phase, insurers may choose which pricing method is more beneficial to them: the legacy rating system or Risk Rating 2.0. Risk Rating 2.0 will apply to all policies renewing on or after April 1, 2022. Premium decreases will go into effect at the policy renewal. Existing policies will also have a 30-day grace period if a premium payment is missed to either reinstate existing coverage or become insured under the Risk Rating 2.0 platform.
The Risk Rating 2.0 system differs from the 50-year-old model it replaces.18 The legacy model derived its underwriting guidelines and rates entirely based on FEMA-sourced data. This system provided what had been known as a flood insurance rate map and zone system. It also required base flood elevation certificates that had to be acquired by hand and by inspection. Rates were also derived based on the type of property foundation and in some cases on the elevation of the structure. Finally, rates were calculated based on there being a 1% change per year of a flood occurring on the insured property.
The Risk Rating 2.0 product is more complex and granular in its underwriting and pricing model. A review of all details is beyond the scope of this article.19 However, it highlights some of the more significant changes and updates.
To begin, the National Flood Insurance Program now uses sourced data from many places. Data is pulled from FEMA, other federal governmental agencies, and, most importantly, third-party sources. While FEMA has not disclosed what these third-party sources are, it is reasonable to assume that private insurance data is in the mix.
Instead of the rigid 1% risk of flooding per year, the new program has a broad range of estimates. For example, while it may be reasonable to charge for a risk having a 1% chance of flooding if in a certain proximity to a river, another property on a beach may have an assumption of a 5% per year occurrence rate or even higher.
The new program will also charge a different rate based on the construction material used on the property. The occupancy type of the structure will also be considered. Both the foundation and the elevation of the building will influence how the premium is calculated. Other factors such as the number of floors in the structure, the height of the lowest floor from the ground level, prior claims, and more will go into the mix. Generally speaking, under the National Flood Insurance Program Risk Rating 2.0 system, rates will more accurately align with the individual risk being insured.
Risk Rating 2.0 also introduces new premium discounts and increases the amounts offered on some older options. For example, having a prior preferred risk flood insurance policy will give the insured a 30% discount off the first year’s premium of their new policy. Also, homes built to certain standards will get a 30% discount off their premiums indefinitely.
With changes in policy underwriting and issuance, we are likely to see changes in how claims are handled. While there already exists significant case law,20 the potential for new interpretations of policy provisions throughout this marketplace is to be expected. To be clear, while the amount of coverage offered under the legacy FEMA Flood Insurance Program is the same as under the new Risk Rating 2.0 plan, certainly more goes into claim settling than what appears on the insurance policy declaration. While FEMA’s new program is designed to offer what is described as a fairer system for determining rates, the coverage that is being offered remains basically unchanged.
With the introduction of Risk Rating 2.0, the National Flood Insurance Program has all the underwriting prowess of an insurtech company. Rates will better correlate with the risks insured. With the Write Your Own Program, private insurers are competing with FEMA’s National Flood Insurance Program. With more options comes more competition, and with that better coverage and lower rates should follow.
1. See Flood Insurance Fact Sheet, Cal. Dep’t of Ins., http://www.insurance.ca.gov/01-consumers/140-catastrophes/FloodFacts.cfm (last visited Feb. 10, 2022).
2. Key Fundamentals of Flood Insurance for Agents 2.0, H2O Partners, https://www.h2opartnersusa.com/agent/floodtraining (last visited Feb. 10, 2022).
3. Facts + Statistics: Flood Insurance, Ins. Info. Inst., https://www.iii.org/fact-statistic/facts-statistics-flood-insurance (last visited Feb. 10, 2022).
4. Why Buy Flood Insurance, FEMA Nat’l Flood Ins. Program, https://www.floodsmart.gov/why-buy-flood-insurance (last visited Feb. 10, 2022).
5. Nat’l Flood Ins. Program, Flood Insurance Manual 3-40 to 3-41 (Oct. 2021).
7. Loans in Areas Having Special Flood Hazards, 84 Fed. Reg. 4953 (Feb. 20, 2019).
8. The Write Your Own (WYO) Program, FEMA Nat’l Flood Ins. Program, https://nfipservices.floodsmart.gov/write-your-own-program (last visited Feb. 10, 2022).
9. Climate Change Indicators: River Flooding, U.S. Env’t Prot. Agency, https://www.epa.gov/climate-indicators/climate-change-indicators-river-flooding (last visited Feb. 10, 2022).
10. Fed. Emergency Mgmt. Agency, FEMA F-687, National Flood Insurance Program: Claims Handbook (2017), https://www.fema.gov/sites/default/files/2020-05/FINAL_ClaimsHandbook_10252017.pdf.
11. Fed. Emergency Mgmt. Agency, National Flood Insurance Program: Summary of Coverage 7 (2021), https://agents.floodsmart.gov/sites/default/files/fema_NFIP-summary-of-coverage_brochure_09-2021.pdf.
12. Edward McKinley, As Hurricane Michael Looms, a New Private Flood Insurer Offers Coverage to Help Homeowners, CNBC (Oct. 9,2018), https://www.cnbc.com/2018/10/09/hurricane-watch-private-insurers-rise-against-federal-flood-program.html.
14. See Peg Quann, New FEMA Flood Guidelines Offer More Equitable Coverage, Gov’t Tech. (Oct. 1, 2021), https://www.govtech.com/em/preparedness/new-fema-flood-guidelines-offer-more-equitable-coverage.
16. Fed. Emergency Mgmt. Agency, National Flood Insurance Program Fact Sheet (2016), https://www.fema.gov/sites/default/files/2020-07/fema_NFIP_National-Flood-Insurance-Program-Fact-Sheet_May-2016.pdf.
18. Diane P. Horn, Cong. Rsch. Serv., R45999, National Flood Insurance Program: The Current Rating Structure and Risk Rating 2.0 (2021).
19. Flood insurance training for agents is available. See, e.g., Risk Rating 2.0: Equity in Action: Continuing Education Information by State, H2O Partners, https://www.h2opartnersusa.com/rr-2-equity-in-action-ces (last visited Feb. 10, 2022); National Flood Insurance Program Risk Rating 2.0, Expert Witness Pros., https://www.professionalonlinece.com/courses/National-flood-Insurance-Program (last visited Feb. 10, 2022).
20. See, e.g., Horvath v. State Farm Gen. Ins. Co., No. G048547 (Cal. Ct. App. June 30, 2014).