How Flood Risk Is Driving an Insurance Protection Gap in the US

It is likely that you have read recent headlines sounding the alarm over a potentially uninsurable future. The ongoing threat of more frequent and damaging extreme weather is making it increasingly difficult for homeowners to secure affordable insurance, highlighting a growing insurance protection gap.

Perhaps nowhere is this gap more prevalent than in the US, where several insurance carriers have been forced to exit the market in recent years. Floods are a major driver of the increasing costs, exacerbated by low insurance coverage mostly through the public National Flood Insurance Program (NFIP). However, innovation in advanced flood modeling — at the individual property level — can enable private carriers to engage with affordable insurance offerings to households previously considered too risky.

As posited by The Financial Times: Are we facing an uninsurable world? In the past couple of years, more US homeowners are encountering difficulties to get flood insurance, because companies are either raising premiums or exiting the flood insurance market entirely. This is mainly tied to rising flood risks, economic strains, and outdated regulatory frameworks. Meaning that fewer options for flood insurance are leaving many homeowners vulnerable.

Climate Change and More Frequent Flooding

Floods have become more frequent and severe largely due to climate change.

According to Moody’s RMS, the increased risk has made flooding “a peril that can affect every postal code in the United States.” A recent report by the Senate Joint Economic Committee estimates flooding costs the US economy between $180 billion and $496 billion annually from a combination of direct damages and business activity interruption.

Events like Hurricanes Ida, Beryl and Debby are pushing insurance companies to reassess their risk models as they start to understand the real implications and costs associated with urbanization and climate change, which at times will drive companies to simply opt out from high-risk areas.

While coastal areas have traditionally been seen as high-risk, recent events highlight that urban and inland areas are now facing huge increases in flood risks, which is becoming especially problematic as weather is proving to become more unpredictable. The torrential rains brought by Debby flooded towns like Westfield, Pennsylvania, where nearly all residents lacked flood insurance because they were told they weren’t in a flood plain. The storm damaged homes and destroyed personal possessions, highlighting how climate change is bringing more intense rainfall to areas previously considered safe from flooding.

The Federal Emergency Management Agency (FEMA)’s official flood maps don’t properly reflect these new risks in urban areas, because FEMA’s flood zones don’t account for the risk of heavy rainfall, which is why the actual number of homes at risk is more than double the estimate. As a result, many homeowners are caught off guard, thinking they’re safe from flooding. In fact, a large percentage of the properties flooded by Debby were outside high-risk zones.

Economic Pressures on Insurers

Floods are happening more often, and the associated claims payouts have started to stress the reserves of NFIP, with private insurers also struggling. As credit rating agency AM Best reported, “The National Flood Insurance Program (NFIP) is more than $20.5 billion in debt as of 2022.”

In high-risk states like Florida, private insurers have reduced their offerings and general insurers have left it entirely due to the unsustainable economic risks.

AM Best, highlighted that “California has a larger share of flood DPW [direct premium written] in the private market than any other state,” and the recent storms there have served as a “good test of the private flood market.” The key question remains: Can private insurers maintain their financial stability to continue providing flood coverage in areas like, for example, California?

Among the main reasons why homeowners aren’t purchasing flood insurance is because a) many think that they don’t need it, or b) they are unaware of the fact that a typical homeowner’s insurance policy does not cover floods.

Another one — and perhaps the one that insurers are seeing the most lately — is the rising cost. In some cases, homeowners are expecting to see their flood insurance premiums increase nearly 500% in just a few years (although increases have a 18% yearly cap). This steep rise is a result of NFIP’s shift in 2023 to more accurately reflect the true risk of flooding with their Risk Rating 2.0 pricing model. However, the change has caused financial strain for some particularly low-income homeowners in high-risk areas.

Outdated Policies, Regulatory Challenges

One major issue that insurers are facing is the reliance on FEMA’s flood maps, which are outdated and don’t accurately reflect current risk levels. Many of these maps are decades old, leaving insurers blind to actual risks.

According to FEMA officials, the flood insurance maps need to be updated to account for the evolving landscape and changes in climate. This puts private insurers at a disadvantage, as they cannot properly price risk. This lack of granularity in maps and risk data is another issue as insurers have struggled to engage better quality data in their models.

This data gap makes it hard for insurers to predict where and how severe flooding will be, which is leading many to simply avoid offering flood insurance in general.

New Models May Help Close the Gap

New catastrophe models are improving insurers’ ability to assess risk, but the gap between public and private data is still significant.

In response, insurers are developing more advanced tools to quantify risk but lack consistency between public and private models. New models for flood risk help bridge this gap by offering real-time, property-level risk assessments. This allows insurers to offer coverage in areas where data is lacking or where FEMA/NFIP maps designate properties as high risk.

The Bottom Line

All these causes — climate change, urbanization, economic strain, outdated regulations, and insufficient data — are driving some insurance companies to withdraw from flood coverage. Updated policies, including those for risk mitigation, education, affordability, better data, supporting and investing in innovation and technology, incentives, outreach programs, and more governmental support are key to tackling this problem.

Companies will continue to respond to climate crisis and provide coverage, but this might mean higher premiums or fewer options, leaving entire communities without affordable or accessible coverage in the US.