The Truth About Texas’ Homeowners Insurance Industry

Due to recent reforms the Texas insurance market is stabilizing and loss ratios in Texas are better. But while things are better, conditions are far from first-rate for insurance companies. There have been no real signs of “across the board” profitability, there are only a limited number of insurance companies writing policies here, and there is minimal interest by other insurers to even consider doing business in Texas.

It would be impossible to try to balance what Texans pay for homeowners insurance with what is paid in other states. The plain and simple fact is that Texans should always expect to pay more for homeowners insurance coverage than in other states because of natural disasters and the Texas weather patterns.

Texas has led the country in natural disaster losses in three of the past four years. Last year Texas ranked second in the country for disaster losses including losses from windstorms, hail and tornados and cannot escape its vulnerability to the threat of hurricanes. The surprising part is that homeowner insurance rates in Texas fell about 4 percent last year while they rose by about 6 percent nationally.

In addition to being one of, if not the most disaster-prone state, Texas has one of the worst tort environments in the United States and is actually placed among the five worst in the nation in a study by the U.S. Chamber of Commerce. This drives up the cost of settling claims since there’s more litigation in Texas than in most states, sometimes resulting in gigantic awards.

An accurate way to look at the Texas insurer’s bottom line is to look at their return on net worth, (income divided by net worth). Between 1985 and 2002, the average return on net worth for homeowners insurance in Texas was minus 9.7 percent compared with plus 0.1 percent for the entire nation. The return on net worth in the Texas homeowners insurance market was negative in 10 of 18 years between 1985 and 2002. The return on net worth in 2001 and 2002 were the worst in the United States at minus 42.4 and minus 41.9 percent respectively. Since 1985 Texas has never gone more than four years without a negative return on net worth.

The only way to have any hope of making money and staying in business is to charge adequate premiums.

The Texas homeowners insurance market is in a state of transition. Financially troubled insurers, hit hard with losses from severe weather, mold and a non-competitive marketplace, have suffered billions of dollars in losses during the past year.

Some have mistakenly suggested that Texas insurers paid out only 58 percent of their premiums on loss claims for every premium dollar collected. Comparing that to combined (loss and expense) ratios from 2001 and 2002 when carriers had losses of 109 to 118 percent respectively is an acute example of a misunderstanding that needs to be cleared up.

A 58 percent loss ratio is in no way related to the 109 percent and 118 percent combined (loss and expense) ratios that were experienced during 2001 and 2002. The Texas Department of Insurance made a concerted effort to point out this fact when they released this information. The department was correct in defining a loss ratio—the percentage paid out in losses compared to premiums collected.

Combined (loss and expense) ratios, which are the true indicators of an insurer’s profitability, are losses paid plus operating expenses, including overhead such as administrative costs, employee salaries, rate filing expenses, agency fees, taxes, mandatory payments to the Texas Catastrophe fund, advertising and marketing.

It is impossible to compare a loss ratio with a combined (loss and expense) ratio (the numbers noted for 2001 and 2002) since they are two distinctly different measurements.

The combined ratio is the true indicator of an insurer’s bottom line. Current estimates, based on an Insurance Information Institute Early Bird Survey in December 2003 using A.M. Best, I.I.I. and Insurance Services Office data, reveal that insurers will have combined ratios of 103 percent in 2003 and 100 percent in 2004. On average, insurers will still be paying out more in losses than they received from premiums or will just break even.

Because of mere signs of stabilization rather than overall profitability, vibrant competition has yet to flourish. Insurance companies are cautiously waiting to see if the Texas market will show more signs of improvement before they jump into what appears to be a quagmire. Last year’s reforms did start the process, but unless we have a magic wand we should not expect immediate rebirth of an industry that was recently struggling to survive.

Sandra Ray is public affairs director of Southwestern Insurance Information Service, a 51 year-old trade association representing insurers that write 85 percent of the property/casualty insurance in Texas.