The Reality of Flood Insurance Repayment
By Rade Musulin
In 1817 the British poet Samuel Taylor Coleridge coined the phrase “willing suspension of disbelief,” describing an audience’s acceptance of a story line that is not constrained by reality. It allows us to enjoy a story in which characters travel through time, tame dragons, or do other things that we know are not possible.
In Washington, this concept may explain how one could accept the notion that the National Flood Insurance Program (NFIP) will somehow, someday repay billions of dollars that it must “borrow” from the U.S. Treasury. [Editor’s note: The Academy’s Casualty Practice Council sent a letter in early November to U.S. House leaders on pending legislation to reauthorize and revise the NFIP. See story below.]
The NFIP experiences two types of operational years. Most years have “normal” floods such that the program takes in enough in premiums to pay claims, cover administrative costs, and pay interest on its debt to the Treasury. In some years, though, the program suffers large losses from megastorms like Katrina, Sandy, and Matthew—and now Harvey, Irma, and Maria—requiring it to borrow billions from Treasury to cover claims.
In theory, the NFIP would repay those loans out of excess premiums collected in “normal” loss years. That’s where the willing suspension of disbelief is required. Earlier this year, reports from the Congressional Budget Office, the Government Accountability Office, and the Academy—as well as testimony from NFIP’s parent organization, the Federal Emergency Management Agency—all concluded that there is nowhere near enough surplus cash flow in the program to repay the debt, even after all planned rate increases are fully implemented. Congress has been told repeatedly that premiums cannot be realistically raised high enough to pay off the loans at any time in the foreseeable future.
At the start of this year, the NFIP owed almost $25 billion to the Treasury and was incurring about $400 million per year in interest charges. Almost all this debt was attributable to Katrina (in 2005), Sandy (2012), and Matthew (2016). The NFIP had about $3 billion in unused borrowing authority available when Harvey, Irma, and Maria struck recently. Preliminary estimates of the losses from those storms to property insured by the NFIP are around $20 billion.
Instead of raising the NFIP’s statutory borrowing limit of $30 billion, the Trump administration instead proposed forgiving $16 billion of existing debt. In emergency disaster relief legislation passed in October, Congress agreed. This meant that the $20 billion in new debt could be accommodated within the $30 billion limit. If another big storm comes along, presumably the same accounting method could be used again.
Eventually, the NFIP will owe the Treasury $30 billion and its annual interest payment will be well above $400 million per year. Meanwhile, premium income (before fees and surcharges) will remain at about $3.5 billion per year. Repayment of the debt in full is about as likely as our personally experiencing time travel or taming dragons.
When the Academy’s Flood Insurance Work Group issued its analysis of the NFIP in April, we suggested several reforms that Congress could consider. Important principles behind those ideas were to recognize that past debt cannot be repaid by the NFIP under any reasonable scenario, that repayment of additional losses from new megastorms needs to be carefully considered, and that Congress should adopt a long-term perspective, much the same way it looks at Social Security and Medicare.
Planning for repayment of the NFIP debt and future losses will require Congress to recognize the extreme levels of damage and costs associated with megastorms, beyond “typical” losses that are covered by premium income and above a modestly higher level of losses that can be covered by commercial reinsurance contracts. This recognition is found in other property insurance programs where we see that state-run risk pools for catastrophic wind storms or earthquakes have the power to levy assessments. It is how residual markets operate for automobile insurance. It is how guaranty funds work in the case of insolvencies.
We cannot expect the relatively small pool of flood insurance policyholders to repay a debt that is more than eight times as large as the annual premium base. Decisions and acceptance of a threshold beyond which megastorm losses become a general public responsibility—along with a plan for financing NFIP losses up to that threshold—are politically difficult but necessary.
Such planning is entirely feasible. The Academy’s study offered several ideas, including expansion of private coverage for flood; increased use of commercial reinsurance; reduced exposure to repetitive losses; improved mitigation; and planning for foreseeable changes in future flood risk, including the effects of sea level rise on non-storm coastal flooding. Long-term thinking is critical with respect to building codes, because today’s decisions on how we build in high-risk areas will affect the NFIP’s finances for decades to come.
We can and should address these realities that challenge the NFIP. Otherwise, we will have to again suspend disbelief, stop worrying about the NFIP’s unpaid debt, ignore the problem of megastorms, and continue building as usual. Can future generations of taxpayers afford that?
Rade Musulin is an actuary in Gainesville, Fla. This article is solely the opinion of its author. It does not express the official policy of the American Academy of Actuaries; nor does it necessarily reflect the opinions of the Academy’s individual officers, members, or staff.
CPC Comments on Flood insurance Legislation
The Casualty Practice Council (CPC) sent a letter Nov. 8 to the U.S. House of Representatives offering comments on H.R. 2874, the revised 21st Century Flood Reform Act, which would revise and reauthorize the National Flood Insurance Program (NFIP).
“A number of important reforms are in the bill as it is written, but more can be done to aid flood risk assessment and mitigation, and help address the NFIP’s sustainability,” said Rade Musulin, the Academy’s vice president, casualty.
CPC’s letter offers a series of recommendations, including:
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Renew the NFIP for at least five years, as it has been in the past;
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Encourage growth of the private insurance market, which would offer more consumer choice;
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Avoid pricing disparity and funding problems;
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Resolve the NFIP’s debt question, given its current debt to the U.S. Treasury approaching $30 billion;
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Address repetitive loss properties;
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Make more historical flood loss data available;
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Modernize flood mapping and risk assessment;
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Change the mitigation program;
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Align coverages between NFIP and private insurance policies; and
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Take into account rising sea level.
Annual Meeting and Public Policy P/C Sessions Cover Flood, Auto Insurance
Property/casualty sessions at the Academy’s Annual Meeting and Public Policy Forum, held Nov. 14–15 in Washington, D.C., covered flood and automobile insurance, and included a preview of the 2018 state and federal legislative and regulatory landscape. See the upcoming November Actuarial Update for more coverage.
Academy Names Kevin Ryan Senior P/C Fellow
Kevin M. Ryan, an actuary with decades of regulatory, executive, and consulting experience, was named the Academy’s new senior property and casualty fellow. Ryan, whose appointment was effective Sept. 1, succeeds Jim MacGinnitie, who retired in September.
In his role, Ryan will communicate the Academy’s work on casualty actuarial issues pertaining to cybersecurity, extreme weather and catastrophic event risks, workers’ compensation, medical professional liability, reinsurance, automobile insurance, and many more casualty issues to the public and to public policymakers.
“The actuarial profession has a unique capacity to educate the public and assist in establishing sound public policy,” Ryan said. “I welcome the opportunity to be a voice for the profession in this important work.”
A past Academy treasurer, Ryan served early in his career as deputy director of the Illinois Department of Insurance, where he initiated early-warning solvency testing programs, a precursor to risk-based capital. He assisted in the formation of the Insurance Services Office, merging independent fire rating bureaus into the fledgling organization, later serving as vice president, commercial lines. He served as president of the National Council on Compensation Insurance for 10 years.
A past president of the Casualty Actuarial Society, Ryan was a partner at and established the East Coast casualty consulting practice for Milliman, and was later a partner at Bickerstaff, Whatley, Ryan & Burkhalter.
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