Californians are learning the hard way that natural disasters can cause financial headaches long after the house is repaired.
With the state’s biggest insurance companies shying away from writing new homeowners policies in the wake of the Northridge earthquake, experts warn California faces “a developing crisis” that could affect home buyers, homeowners and, ultimately, perhaps even stifle the economic recovery.
Such predictions arguably are laced with political rhetoric intended to influence the outcome of legislative maneuverings in Sacramento and Washington. But industry and consumer groups agree tens of thousands of Californians soon may discover they no longer can rig their insurance safety net as easily, cheaply or effectively as in past years.
Homeowners in Florida and Louisiana learned the same lesson after the devastating Hurricane Hugo. Faced with unexpectedly large claims, many insurers raised policy rates dramatically or just stopped selling coverage at all.
California Insurance Commissioner John Garamendi tried to head off the crisis last month by extending the little-known, industry-sponsored property and quake insurance-called the FAIR Plan-to the entire state. But even FAIR warns its coverage is limited, pricey and should be considered a “last resort.”
“There’s no question that insurers and homeowners are between a rock and a hard spot now, and something will need to be done very soon to remedy this or keep it from getting worse,” said Norma Garcia, a staff attorney for Consumers Union.
The issue has become alarming in recent weeks because the state’s most powerful insurers have limited their homeowners sales by tightening underwriting standards, selling policies only to renewing customers or accepting new policyholders only on a one-for-one basis when current customers drop coverage.
The central issue isn’t really over homeowners insurance-it’s over earthquake coverage. By law, insurers can’t sell homeowners policies in California unless they also offer earthquake coverage. The problem is that earthquakes are highly unpredictable and potentially devastating-a point driven home by the Northridge quake, which had rung up $6 billion in damages at the last estimate. But to stop offering quake coverage, insurers also must stop selling homeowners coverage.
Insurers say they’re worried about their quake risk because they not only have severely underestimated the potential damages of “the big one,” but they also have charged far too little for policies. Saying the industry must brace itself for a quake that could cost $50 billion to $80 billion, experts say insurers have imposed their moratorium partly so they can re-evaluate their risk and prices.
So far, the state’s biggest insurers have acted-notably State Farm, Allstate, Farmers, California State Auto Association, Safeco and Transamerica-affecting well over half the policies.
That could create an opening for aggressive insurers to step into the void and grab market share, but experts say it’s too soon to tell if that’s happening. To the contrary, some smaller issuers have hit the brakes, said Steve Young, staff counsel for the Independent Insurance Agents and Brokers of California.
The insurance crunch was intensified when 20th Century Insurance Co., staggered by losses from the Northridge quake, received state permission to drop earthquake coverage. Last month, the company announced it would not renew policies that expire after July 23-news that could send 90,000 customers scrambling to find coverage when policies are in short supply.
The insurance crunch should not directly affect current policyholders because insurers say they will renew such policies. But homeowners may find-this year at least-that it will be harder to shop around at renewal time for a better price, Young said.
Instead, the issue is going to be most crucial for potential home buyers because lenders won’t approve loans unless there’s proof of fire insurance, experts say. Buyers are advised to start hunting for coverage long before escrow closes and not to treat it as an afterthought.
“Have people started to be turned down for mortgage loans? I can’t tell you that,” said Dave Fountain, spokesman for the Personal Insurance Federation of California, a lobbying group for six insurers that write more than a third of the state’s homeowners policies. “Ultimately, that will be the result if action isn’t taken to avert that.”
That was partly the reason Garamendi moved to temporarily expand who can be covered under the FAIR Plan, a state-mandated insurance syndicate created as the insurer of last resort. That order is effective for nine months starting July 1.
Developed in 1968 to offer basic property insurance in urban areas that mainstream insurers avoided after the Watts riots, the FAIR Plan later was extended to cover homeowners in areas prone to brush fires and landslides. The FAIR Plan’s basic policy-for fire insurance-will satisfy mortgage lenders by covering against a loss to a structure. But its policies are thin and pricey, experts say.
For instance, unlike a basic homeowners policy, the fire policy doesn’t cover against theft, liability or provide additional living expenses. Consumers should plan to buy “wrap-around” coverage elsewhere to fill in such gaps. The policy also does not offer replacement cost coverage for the contents of the home, a common feature in most homeowners policies. Instead, contents are covered only for actual, depreciated cash value.
More Top Picks Best Self Cleaning Litter Boxes
Insuring a wood-frame house is about $2.50 per $1,000 in coverage, putting the FAIR Plan “at the higher end of all companies’ rates,” according to the Department of Insurance.
California isn’t alone in its post-disaster insurance woes.
Florida created an insurance pool to offer coverage to homeowners who suddenly couldn’t buy policies in the open market. Today that plan is covering thousands more homeowners than its designers ever intended, despite higher than market rates, and some fear the “safety net” is headed for collapse.