Hard Market Hits California Homeowners

Credit scoring, CLUE reports become targets of Commissioner Garamendi’s Ire

The hard market has hit California homeowners hard. State Farm, which had nearly 23 percent market share in the state in 2001 according to the National Association of Insurance Commissioners Database, stopped issuing new homeowners’ policies early in 2002.

And many other standard insurers have raised their premiums between 10 and 40 percent and stopped carrying any risks without a completely clean loss record, thanks in part to the mold scare. These actions have spurred a fierce reaction from legislators on both sides of the aisle and newly re-elected Insurance Commissioner John Garamendi, who has called for a “homeowners’ bill of rights” that would limit insurers’ use of loss and credit data in rating and underwriting risks.

Garamendi “is on the warpath,” said Cheryl Koch, an agency consultant based out of Sacramento.

‘An Unhappy Place’
The homeowners’ market in California is “an unhappy place,” said Richard Swoy, CEO of Superior Access Insurance Services Inc., a wholesale broker.

Then again, California was an expensive state to buy homeowners coverage even before the resurgent hard market and the catastrophic losses associated with Sept. 11. The average premium was $559 in 1999, according to the NAIC, ninth costliest in the country.

The homeowners combined ratio for California was 106.7 percent in 2001, 29th out of 50 states. Nationally, insurers are paying out $1.18 for every $1 they take in on homeowners policies, according to the Insurance Information Institute.

“State farm’s exit from new insurance has dramatically decreased the availability of new insurance in California,” Garamendi told Insurance Journal. “We still have about 140 companies, a few of them are large and the rest are very, very small.”

Nicole Mahrt, a spokesperson for the American Insurance Association, attributed the spike in homeowners insurance, which she said is “still relatively affordable,” to a number of factors.

“The price of housing has gone up, and it costs more to insure a house of higher value. There’s been a housing boom, so getting contractors to work on house costs more, and making repairs costs more. The cost of materials has also gone up.”

But “the market is obviously in flux,” according to Richard Polizzi, president of Western Security Surplus Insurance Brokers Inc., which has offices in Southern California, Northern California and Dallas. “The major standard markets are either under moratorium or have raised premiums and shrunk coverages.”

Allstate Insurance Co., which had 14 percent market share in 2001, Farmers and USAA are a few of the top carriers that have taken actions to reduce their aggregated risk and tighten their underwriting guidelines.

“All those years of the soft market and overly competitive prices are coming back to haunt them,” Swoy said. “For carriers it is indeed a tough time. They get a flood of business, and what they want to do in their mind is to keep it profitable. They’re playing catch-up.”

The major standard insurers just aren’t “looking for much new business, except for areas where they don’t have a concentration to begin with,” said Ken Nitz, program manager at the Woodland Hills office of Swett & Crawford, a wholesale broker. “The major carriers are very concerned about aggregate loss exposures on these accounts.”

In addition, filed-for rate increases have been approved in many cases and the standard market premium has been significantly increased because of that, Nitz said, whereas the surplus lines markets have had little or no premium increases.

Oh, the Water
A big concern for California insurers writing homeowners has been water damage leading to mold, which has definitely contributed to the hardened market.

“Insurers are taking a closer look at loss history on a property,” said Peter Gorman, Western regional manager for the Alliance of American Insurers, a trade group which represents 340 property-casualty insurers. “And in particular, if there are water losses on a property it is raising red flags for insurers. To the extent that we are using more accurate historical information and finding problems we did not know about before, it is possible it’s causing a tightening of the market.”

Water damage claims were up 102 percent since 1997 and the homeowners loss and LAE ratio was up 14.4 percent in 2001 from the previous year. Overall, losses went up to $330.46 million in 2001, up 24.3 percent since 1997, which landed the Golden State 17th highest of the 50 states.

“People need to remember what the cause of problem in homewoners’ market is – they hysteria over mold,” Mahrt said. “Three or four years ago we weren’t even talking about mold. The trial bar has done a good job of scaring a lot of people, causing a lot of claims and losses to be filed. Insurers have had to pay 10 times as much to pay claims to prevent being sued.”

Still, the previously mentioned data points are not especially helpful, since the mold scare really began hitting its stride last year. But most standard insurers have either excluded mold entirely or offered it as a capped sublimitation or buyback on preferred policies.

“If there’s a history of mold in the house, we don’t want to have to write it. It’s a guaranteed loss,” is the way Gorman put it. Claims were running as high as $30,000 to $40,000 for mold damages because “fly-by-night” operations were running up the bill before insurers were ever notified, Gorman said.

“I would say [mold] is definitely driving premiums upward and the loss ratios have been running 130 and 140 percent in homeowners,” Gorman added. “You can figure that translates into premium increases of 20 to 30 percent.”

The California Department of Insurance (CDI) has said it has seen a downward trend for mold complaints. Garamendi said mold had “created a panic among insurers” and the problem could be handled by proper claims management, preventing water damage from becoming mold.

“Its probably running its course,” Gorman said. “Companies have filed their exclusions, so there’s no longer that goldmine for plaintiff’s attorneys. We may finally be seeing this trail off, though we don’t have any firm data yet.”

Surplus Lines Picking Up the Slack
One difference in the reactions of standard and surplus lines (or non-admitted) insurers to the problem of mold is that while standard carriers exclude mold, they still cover mold from insured perils such as water damage, according to Nitz.

“Surplus lines carriers have excluded it entirely or put a sublimit on it,” Nitz said.

Otherwise, Nitz said he has not seen a material change in the surplus lines market. “The more responsible and responsive markets haven’t had a bad loss experience in California as standard insurers have,” he said.

Polizzi said that, “On a non-admitted basis, we have, frankly, a lot of capacity, albeit with restrictive endorsements. And there may be a higher deductible than you’d normally find in standard company.” Instead of a $500 deductible, Polizzi said, surplus lines carriers are likely to offer a $5,000 deductible, and the pricing for a mold sublimitation is generally high, ranging from $10,000 to $25,000.

“There are boutique markets coming in,” according to Swoy. “Investors feel there’s possibly the moment where they can make a return on their investment. The rates might be 50 percent higher than what they were three years ago, though. The surplus lines are picking up more of the stressed properties. They will insure a home that may have one or two losses, but they’ll do it for a price.”

Even for cases where clients non-renewed by a major carrier come to an independent agent looking to place a risk, there should not be too much difficulty in having them placed, Polizzi said.

“We’re the overflow,” he said. “The underwriting issue of availability which kicks it out of the standard marketplace. When they come to wholesale market, they leave with a specific issue, because of brush or whatever. We’re able to make an almost instantaneous decision based on those criteria.

“That’s a rightful position in the marketplace,” Gorman added, “not to interfere with standard market, but when that standard market starts to constrict for whatever reason, the wholesale market steps in.”

And the CLUE is …
In spite of the surplus lines’ capacity and ability to pick up where the standard carriers have left off, Golden State politicians are taking a dim view of what they call a crisis in the homeowners market.

“We have put forth a homeowners’ bill of rights to address problems that exist in the homeowners insurance market today,” Garamendi said.

The package deals with insurers’ use of the Comprehensive Loss Underwriting Exchange Property Database reports, credit-based insurance scoring, and so-called “use it and lose it” policies, where an insured is canceled or non-renewed after making a claim.

CLUE is a database that tracks claims on properties and property owners supplied by carriers of homeowners’ insurance policies across the nation. An insurer investigating a particular risk can, using CLUE, find the name and address of the policyholder, whether there has been a claim for water, earthquake, tornado, fire or other losses, and the amount of any damage claim paid.

Garamendi said the CDI would be issuing a bulletin the week of March 10 which “allows use of CLUE but requires insurance companies follow federal law to allow those customers adversely affected by CLUE to see the report and correct and comment on the report.”

The bulletin also “requires that companies take into account future risk in their underwriting and rating practices,” Garamendi said. “Even though they may use CLUE they should take into account future risk that has been dramatically altered for any number of reasons. For example, person buys a new home. The CLUE database may show the old home in a high-crime area. The new home and homeowner is denied insurance based on the old home. That’s unfair, and that’s an improper underwriting technique. Our bulletin will make it clear that they must take into account future risk. … A mechanistic application of CLUE does not look to the future.”

Ken Nitz took strong exception to Garamendi’s crusade. He said that “10 or 20 percent of your insureds are crooks, like it or not, and they’ll take advantage of a situation.” In this case, that meant fraudulently reporting home thefts. “That’s not the kind of guy I want to have for an insured,” Nitz said. “There’s no reason for you to be screwing around with people.”

The Alliance’s Gorman worries that requiring insurers to go beyond looking at just the CLUE reports will slow down the underwriting process. He also disputed the premise of Assembly Bill 81, sponsored by Rep. Mark Wyland (R-Escondido), which is sponsored by the CDI.

The bill prohibits insurers from recording as a claim any inquiry made by an insured about homeowners policy coverages, and requires insurers to investigate and verify the real potential for future loss rather than just relying on data obtained from CLUE and other databases. Gorman said only paid claims are recorded in the CLUE database.

Settling the Score
While industry representatives have sounded a somewhat conciliatory tone with regard to the use of the CLUE database, saying that the public does need to be educated more about how and why it is used, Garamendi’s stance on credit-based insurance scoring is completely at odds with the carriers’ stance.

“My position is as follows,” Garamendi said. “Credit scoring cannot be used in California until such time as insurer proves that credit scoring does not discriminate against legally protected classes,” by which the commissioner primarily means ethnic and racial minorities.

Agency consultant Koch has called credit-based insurance scoring “a thinly veiled form of redlining,” and said the industry has yet to show that it does not have a disparate impact on minorities.

The Alliance’s Gorman said a University of Texas-Austin study commissioned by the Texas Legislature and conducted by ChoicePoint (which issues credit-based insurance scores) surveyed 150,000 policies and found no discriminatory impact. Garamendi replied that that study did not survey all protected classes.

“What I’m telling the insurance companies is prove it,” he said. “In the meantime, you’re not using it. That’s up to the insurance companies to come up with a study proving that scoring is rational, legitimate, and that they do not discriminate against protected classes. In the meantime, it’s very clear that poor people who have poor or no credit are therefore subject to discrimination through use of scoring. That’s enough for me to say you can’t use it until you prove it.”

Garamendi said he fully supports Assembly Bill 227 introduced by Rep. Juan Vargas (D-San Diego), which would ban credit-based insurance scoring in California.

Superior’s Swoy said that actions on CLUE and credit scoring would raise prices but that carriers would adjust, as they always seem to do.

“Whatever Garamendi wants, we’ll all just go along with it,” he said.

Into the Future
All seem to agree that it will take some time for the California homeowners market to normalize.

“I think the standard markets are still going to take a while to become whole, because their response is mostly rate,” Nitz said.

Swoy said that until things such as the actual exposure due to mold and any allowable use of credit scoring are resolved, the market will stay hard.

“I don’t see any change in the foreseeable future,” he said.

To comment on this story, e-mail: koreilly@insurancejournal.com