Why Flood Insurance Is Not Automatically Included In Your Homeowners Insurance

It is not unusual to find that insurance policies come with varying exclusions. One of the most common exclusions is flooding – it’s simply not covered by homeowners insurance, and very few homeowners bother with it. 

According to a 2016 survey by the Insurance Information Institute, only 12% of homeowners have flood insurance. In the previous year, that figure was 15%. Why homeowners do not seek cover for such a potentially devastating event could be due to many reasons, but the most probable might be an assumption by most people that their homeowners insurance covers them in the event of flooding.

Regardless of the reason, the fact remains that your homeowners insurance doesn’t cover flooding, and in this article, we take a look at why this is so. But before we proceed, it is important to know that there is a difference between water damage and flood damage. 

Water damage from a broken or leaky pipe in your home would be covered; but what is properly referred to as a ‘flood’ in insurance terms would not be. Flooding, in insurance terms, refers to a situation in which a body of water outside your home overflows to a point where it enters your home. Usually such events are due to a natural disaster and more than one home is affected. It’s this kind of flooding that’s not covered.

1.           Costs of flood losses exceed premiums collected

The first reason is a simple matter of economic sense – it doesn’t make any for insurance companies. The cost of damage associated with floods is simply astronomical. Interestingly enough, there was a time – before 1950 – when flooding was covered by the homeowners insurance. However, over time, losses incurred as a result of flooding increasingly became too much of a burden. As a result, many insurance companies started excluding flooding from their homeowners insurance packages. 

Eventually, in the early 1960s, all private insurance companies stopped offering flooding insurance because it wasn’t profitable. This created a huge gap and forced homeowners to bear their losses, many of which was simply too onerous owing to the high costs of the losses. This forced the government to step in. At first, the government provided public disaster aid to assist homeowners before the NFIP was established in 1968 to provide flood insurance.

2.           Relatively low numbers of properties involved

The way insurance works, so that it is profitable for insurance companies, is to have a lot of people subscribing to a policy. Larger numbers of people translates into a larger pool of money from premiums to offset losses from the few people who do need to claim on the insurance policy. 

When the reverse is the case, then the pool of money is smaller. And so insurance companies would literally be shooting themselves in the foot if they included flooding as part of homeowners insurance without extra premiums to make the pool of money larger. But of course, the ability to charge extra premiums is based on the premise that more people would be willing to pay it for flood insurance, a notion already negated by the 12% statistics cited earlier. 

However, private insurance companies offer additional insurance known as ‘excess coverage’ on top of the flood cover the government offers. The government only offers up to $350,000 in coverage - $250,000 for house structure and up to $100,000 for the contents and personal possessions in the house.

Ultimately, insurance companies need to make profits; providing flood cover diminishes that profitability and that is the main reason why flooding is usually not included in homeowners insurance covers.

Are Hurricanes Getting Worse as Time Progresses?

What a season it’s been. From Harvey to Irma to Maria, the world watched as the US and the Caribbean lurched from one hurricane to the next, each successive one piling on more misery. 

The quick succession in which they came and the sheer amount of damage we all saw on TV has had people asking whether hurricanes are getting worse or not. According to scientists and experts in weather patterns, the short answer is “yes, they are getting worse.” However, that’s not to say we’re having more hurricanes.

The evidence suggests that hurricanes are in fact fewer. For instance, Harvey in the first hurricane to make landfall in the US in 11 years. However, what is getting worse is the intensity of those storms. They are stronger and causing far more damage. Hurricane Katrina had been the most expensive flooding in US history, at a cost of $160 billion, but experts believe that the recent storms will outstrip that number. Fortune magazine for instance, estimates that hurricanes Harvey and Irma, may end up costing between $150 billion and $200 billion in damage and lost productivity to cities like Houston and Miami, which were hit by them. 

What does this mean for the insurance industry?

Specifically, how will it affect flood insurance rates? Will the National Flood Insurance Program (NFIP) be gone, leaving only Write Your Own (WYO) Plans?

It is difficult to predict the answer to these questions and what effects these storms will have on the current flood insurance system. With regard to how the hurricanes will affect the insurance industry and flood insurance rates, it has been suggested that it could lead to a rise in insurance rates even for those who do not live in one of the areas hit by the hurricanes. This is because insurance companies will have to pay out billions of dollars to customers whose properties were destroyed or damaged by winds for, example.

Effect on NFIP and WYO

Financial analysts and insurance experts predict however, that it is the NFIP that will bear the brunt of these disasters. Established by Congress in 1968 after Hurricane Betsy, which had caused extensive flooding in Florida and Louisiana in 1965, the NFIP is administered through the Federal Emergency Management Agency. Even though Harvey and Irma were accompanied by heavy winds which caused their own damage, much of the damage that people suffered would have resulted from flooding, and this is covered almost entirely through the NFIP. But according to the Insurance Council of Texas, only about 20 per cent of homeowners have flood insurance in Texas, meaning that uninsured losses will be quite significant.

Fortunately for those with flood insurance through the NFIP, they can recoup some of the damages and will get money from the program to help rebuild their homes. However, whether the NFIP will be able to cope with the burden is another matter. The NFIP was already financially strained prior to hurricane Harvey and hurricane Irma, and was $24 billion in debt. With this in mind, it is not inconceivable that the projected cost of these new storms could overwhelm the NFIP, and probably lead to its demise.

If that happens, that would leave only the WYO Program available to people. WYO is a program available under the NFIP that allows participating property and casualty insurers to issue NFIP flood insurance policies in their own names. The companies receive an expense allowance for the policies they write and the claims they process, while responsibility for underwriting losses remains with the federal government, which reinsures 100 percent of the coverage. In a scenario where only WYO is available, then more private insurers could step in to the flood insurance market with private policies. This would give consumers more choices for coverage and possibly even lower rates than those charged by the government.