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Federal flood insurance program still recovering from inundation of claims

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Hurricane Katrina flooded the National Flood Insurance Program with debt, a situation that has yet to be resolved 10 years later.

Perhaps Katrina's greatest impact was exposing that the federal flood insurance program fails to charge adequate rates for flood coverage. That has resulted in congressional attempts to revamp the program, but the record of reform has been spotty at best.

The program's ongoing financial problems — it is currently about $23 billion in debt — also has led to calls inside and outside of Congress to find a greater role for private insurers and reinsurers in providing flood insurance.

In July, for example, bipartisan legislation, the Flood Insurance Market Parity and Modernization Act of 2015, was introduced in the House of Representatives and the Senate to encourage development of a private flood insurance market for homeowners by giving states greater flexibility in licensing private flood insurers.

The Biggert-Waters Flood Insurance Reform Act of 2012 also advocated a greater role for private flood insurers as it extended the program through 2017.

The bills were designed to put the program on a sounder financial footing.

“What Katrina really did for the flood program is it put it underwater financially, and it hasn't really been able to recover,” said Don Griffin, a vice president at the Property Casualty Insurers Association of America in Chicago.

“I think Katrina had a dramatic impact on the NFIP,” said Jimi Grande, senior vice president at the National Association of Mutual Insurance Cos. in Washington. “It laid bare all of the program's flaws and made the program into a poster child of bad government policy and ineffective bureaucracy. It's a case where good politics turns into bad policy.”

“Katrina exposed the NFIP's failure to charge for catastrophe events and that, unlike an insurance company that plans for the extreme infrequent event, the NFIP has been operating on cash-flow basis,” said Frank Nutter, president of the Reinsurance Association of America in Washington.

“It does provide an opportunity for Congress and the administration to evaluate risk transfer into the reinsurance sector of the catastrophe exposure that the program is obviously subject to,” he said.

“The impact was massive,” a spokeswoman for the Federal Emergency Management Agency, of which the NFIP is a part, said in an email. “The NFIP eventually borrowed more than $17 billion from the U.S. Treasury to pay claims. Additional borrowing in 2005 after Katrina to pay claims from hurricanes Rita and Wilma and other events has left the program with $23 billion debt to the Treasury. Thus far, we have paid back $1 billion.”

“FEMA is currently working with Congress to overhaul and reform the National Flood Insurance Program to make sure that it puts survivors first,” the spokeswoman said. “When it comes to implementing that reform, everything is on the table, including re-examining how we partner with private insurance companies. It is worth noting that there have never been any prohibitions on private insurers entering the flood market — it has been encouraged.”

The federal program began in 1968 “because private insurers were not interested in the flood market because of the near-impossibility of calculating risk, especially on a national scale,” the FEMA spokeswoman said.

Now, however, “it is a peril that can be underwritten,” said Brad Kading, president of the Association of Bermuda Insurers and Reinsurers. He said catastrophe models provide underwriters with improved data and help them categorize risk exposures.

“There is certainly interest in private-sector risk bearing in both the insurance side and reinsurance side,” he said, estimating that about $10 billion in capacity is available in private reinsurance to cover floods.

FEMA is considering the use of private reinsurance as one of several policy options to bolster the program.

The sheer volume of Katrina-related claims and the financial challenges it created for the program raised questions about NFIP's ability to perform its function, said Jim Whittle, assistant general counsel and chief claims counsel to the American Insurance Association in Washington. The problems led to questions: Is the program encouraging the purchase of flood insurance? And how is it meeting the goal of reducing relief payments for flood damage?

“So much of what we saw in Katrina was related to flood and the questions surrounding the causation of flood damage,” Mr. Whittle said. “There was a lot of litigation after Katrina, and a lot of that surrounded the fact that you had a lot of flood damage, and a lot of people weren't adequately insured for flood damage, which is too often the case.”

PCI's Mr. Griffin also noted that Katrina brought a spotlight on what damages had been caused by wind and what had been caused by water. At one point, former Rep. Gene Taylor, D-Miss., introduced legislation that would have required the NFIP to offer wind as well as flood coverage, but it was rejected.

Katrina and 2012's Superstorm Sandy “exposed how inadequate the rates were in many cases. There were subsidies built into the program that they couldn't sustain,” he said.

The stage is set for another congressional battle over the future of the NFIP when it comes up for reauthorization in 2017.

“On one side, you'll have those who use logic, reason and fiscal responsibility; and on the other side, you're going to have politicians who want to give more free things to more people,” NAMIC's Mr. Grande said.