When private insurers refused to sell insurance to homeowners building or living in disaster-prone areas along the Gulf Coast prior to Hurricane Katrina's devastation, state governments stepped into the breach.
Under political pressure in a region where hurricanes are a recurring fact of life, states have created their own insurance companies to write policies for some of the riskiest areas -- with premiums that are higher than most but not high enough to cover losses incurred in a disaster.
As a result, facing big losses from Hurricanes Katrina and Rita, state-backed insurers in Louisiana, Mississippi, Alabama and Texas are imposing surcharges -- up to 20 percent in Louisiana's case -- on other policyholders or their insurers to pay claims on the coast.
The surcharges have rekindled a debate over whether these "insurers of last resort" encourage development in areas where it shouldn't occur and whether inland homeowners should help pay for the claims of coastal dwellers.
"Sometime down the road, a decision is going to be have to be made that if a guy lives on the side of a cliff, or wants to rebuild after the Watts riots, or lives in an area that every so often is going to be hit by a hurricane . . . whether states should be required to give that person insurance," Mississippi Insurance Commissioner George Dale said in an interview.
While the National Flood Insurance Program is often criticized for enabling unwise development, critics say state-backed insurers are beginning to rival it. The federal flood program provides $764 billion in coverage on 4.7 million policies, while state-backed insurers have quietly grown to provide more than $400 billion in coverage on 1.9 million policies.
And while federal flood coverage is capped at $250,000 for structures, some of the state programs are more generous. For instance, Texas's state-backed insurer provides coverage on single-family homes of up to $1.5 million. Florida's massive Citizens Property Insurance Corp., which insures some of the most expensive homes on the Gulf, provides unlimited coverage for wind-damage policies. Efforts by some Florida legislators to impose a $1 million cap failed earlier this year.
Earlier this year, Florida Citizens' board asked for an assessment of 6.8 percent on newly written policies to cover a $516 million shortfall caused by claims following four major hurricanes that hit the state last year. By law, insurers may recoup the amount from policyholders. The one-time surcharge will amount to about $100 per $1,500 in premiums, according to the Insurance Information Institute, a New York-based trade group.
Last month, Florida Gov. Jeb Bush (R) announced the creation of a Coastal High Hazard Study Committee, which will explore, among other things, the role of Florida Citizens in driving development policy.
"There's always going to be in an insurance market some form of cross-subsidizing," Bush said in announcing the committee, according to the Miami Herald. "But if no one in the private market wants to insure on the coast because their underwriters say that's just not sound to do, then that means Citizens fills that void. Is it appropriate for the policyholders of the state of Florida to subsidize coastal insurance?"
The committee's report is due Feb. 1.
Critics of state-backed insurers, who include private insurance groups, say the plans have strayed far from their original mission -- providing fire insurance to riot-torn inner cities.
"The programs were very well intended, but over time some have morphed to end up catering to people who live on beaches," says Robert Hartwig, an economist with the Insurance Information Institute, which advocates allowing private insurers to charge rates high enough to make coastal coverage profitable.
Defenders say the state-backed coverage has underwritten coastal development that has been vital to regional growth while protecting homeowners in areas that private insurers have shunned, including parts of New Orleans, Houston and outlying coastal regions where workers in the oil and fishing industries live.
"If they like their fresh seafood in Chicago, they do want us to insure those homes," Louisiana Insurance Commissioner J. Robert Wooley said in an interview.
The skirmishes over surcharges come at a time when state insurance plans in Louisiana and Mississippi have been hit with complaints of poor claims-handling following the recent hurricanes.
State-backed property insurance dates to the Housing and Urban Development Act of 1968, passed in response to the riots of that era. The act allowed states to create corporations, known as Fair Access to Insurance Requirements, or FAIR, plans, to take on high-risk properties and to tap insurers and policyholders statewide in a crisis. Most plans are required by law to charge higher-than-market premiums so as not to compete with private insurers.
At the end of last year, 32 states, including Maryland and Virginia, and the District had a form of FAIR plan.
A big push came after Hurricane Andrew in 1992, which prompted private insurers to flee the wind-damage market. The exposure of state-run plans to windstorms ballooned to $115 billion by 2001, from $17 billion in 1992, according to the Insurance Information Institute. The number of policies of state-backed plans, meanwhile, rose a staggering 90 percent between 1996 and 2004 to the current 1.9 million.
Some insurance executives and regulators say state-backed coastal insurance has been a key driver -- along with the flood program, ill-considered zoning laws and building codes and after-disaster relief efforts -- of the coastal development boom of recent years. "They obviously encourage development, particularly on coastal barrier islands," says James W. Oliver, general manager of the Texas Windstorm Insurance Association and the Texas FAIR Plan Association.
Louisiana Citizens, with $14 billion in exposure, is the state's fourth-largest writer of homeowners insurance, with 8 percent of the market. Florida Citizens, with 651,000 policies and $206 billion in exposure at the end of last year, is the state's second-largest homeowners insurer behind State Farm Insurance Co.
By law, most plans are required to charge higher-than-market rates so as not to compete with private insurers. But the rates don't always reflect the true economic cost of the insurance, hence the surcharges.
In 2003, 15 of 27 FAIR plans reporting data posted an operating loss, according to a study by the Property Casualty Insurers Association of America, a Chicago-based trade group. Louisiana led the way with $28 million of roughly $100 million in losses, a light year compared with 2004 and 2005.