Summary:
The casualty insurance industry was already in crisis before the fires in Palasides and Altadena, CA.
The financial burden of property insurance has been steadily increasing, with significant rises of 17.4% in the first half of 2024, 11.6% in 2023, and 5.9% in 2022. This cumulative increase of approximately 69% over four years presents a pressing financial challenge for property owners, necessitating immediate attention.
Due to natural disasters and inflationary pressures, the cost of the same coverages has nearly doubled in the last five years.
Lenders require sufficient coverage to provide for replacement costs.
Many property owners have raised their deductibles to $5,000 to $10,000 or more per claim.
Underinsuring properties is not just a risk; it's a ticking time bomb, often due to a lack of understanding. It’s a problem that demands urgent attention as it can lead to significant financial losses in the event of a claim.
I believe 70% or more of the Palasides and Altadena, California, fire victims will not rebuild because they were significantly underinsured.
Article:
What is property hazard insurance?
Insurance is a form of protection whereby insurance companies collect premiums en masse and use those premiums to reimburse accidental damages. The business strategy is to collect more premiums and pay out fewer claims. The purpose is to generate a profit for the company and its stockholders. The insurance industry is systematically regulated and operates nationally and worldwide. There are many types of coverage and policies to insure for different risks.
Real Property insurance is a complex subject because it encompasses many subsets, including residential, commercial, business, and personal coverages. The insured categories include homeowners, Condo/co-op, commercial property, renters, mobile and manufactured homes, liability, and personal property.
Covered events are called perils. A peril is an event that causes damage or destruction to a home or property. The insured perils include fire, windstorms, hail, theft, vandalism, and earthquakes.
Insurance does not cover property damage that occurs over time due to a lack of timely maintenance, wear and tear, deterioration, or faulty quality. The covered claims are due to damage caused by sudden and fortuitous events that occur by chance. Understanding this concept can illuminate the nature of insurance and how it operates. Insurance companies calculate the probabilities of claims and losses and issue coverage accordingly. Profits are the primary motivation.
Non-covered perils, such as flooding, earthquakes, riots, etc., require additional coverage known as 'riders or special endorsements.’ These are add-ons to your standard policy, providing extra protection for specific risks. For instance, a flood rider can cover damages caused by flooding, which is not covered in a standard policy. In such cases, the guidance of a skilled commercial lines insurance broker is essential, providing you with the necessary expertise and reassurance that you are in good hands.
Understanding your insurance policy is crucial—it's empowering. By reading and comprehending the terms of your policy, you can avoid the disappointment of a denied claim and feel more in control of managing potential risks.
The underinsurance speed trap with devastating consequences:
In the past few decades, markets have remained stable with little indication of inflationary pressures. We are now in an accelerated speed trap, which describes the rapid increase in building costs and insurance premiums. This is due to a race between increased premiums and building costs, both of which are related to inflationary pressures. These inflationary pressures include the rising prices of original construction, regulatory compliance, and the increasing cost of required building enhancements during periods of inflation.
A Borrower may be focused on saving money, but should be advised of the severe financial consequences of recovering losses in a claim when the property is grossly underinsured. Good things may happen if the Borrower follows the recommendations of their qualified insurance agent, who is responsible for assessing the property’s value and advising on the appropriate coverage. What happens when a property owner experiences a hazard loss, tenders a claim to the insurance company, and discovers the condition of massive under-insurance? Blaming others is the answer, of course. Due to policy limits, the insurance company is entirely aware that it has no liability for this underinsurance problem.
Inflation causes the prices of building materials, appliances, heating, and air conditioning, as well as municipal approvals (including revised building codes and labor costs), to rise substantially; over time, this process compounds prices.
Whether intentional, uninformed, or negligent on the part of the Borrower's insurance agent, real estate agent, or mortgage broker, the insured parties may find themselves underinsured and must pay a portion of the repair and reconstruction costs for the loss. Many owners may not have the financial resources to cover the shortage. The consequence may be to walk away from the property and hand the keys over to the lender. This highlights the urgent need to address the issue of underinsurance to avoid such dire financial consequences, instilling a sense of caution in the audience.
The problem of underinsurance is a nationwide catastrophe that is currently occurring. No one even talks about the fact that property insurance industry participants, including insurance agents and brokers, as well as real estate agents/brokers, are not vocal enough about the magnitude of this national problem. But, as accusations fly, Mr. Fiduciary, you should have told me that I was underinsured; the lawyer community will high-five with delight.
The Borrower's Loan Broker:
My client objected to paying premiums for full replacement coverage. He is a general contractor who claims that he can repair the damage for a ssisignificantly lower pricean the insurance carrier has quoted Be.sides, he contends that the land will not burn down. Please reduce his replacement cost from $2,000,000 to $ 1,000,000. He is determined to save on insurance premiums.
Professional advice is invaluable when navigating the complexities of property insurance. By consulting a knowledgeable insurance broker, you can ensure you have the right coverage for your property. This highlights the crucial role of insurance agents in addressing underinsurance, providing you with the confidence to make informed decisions.
Underinsurance is more prevalent now than before due to the upward cost pressure caused by inflationary increases in construction costs. For example, lumber prices, other materials, and labor have increased dramatically. Municipal approvals and building standards/codes are much more stringent. Add-on municipal fees (taxes) have also increased.
The owner, acting as a contractor, may employ substandard workers, operate without adequate insurance, and skirt building and zoning compliance. The property owner may calculate $200 per square foot for replacement. However, in the retail market, where the insurance company is contemplating hiring a third-party contractor, the exact replacement cost is $400-$500 per square foot. These figures are for entry-level and production home.s High-end custom homes can cost $1,000 to $2,000 per square foot or higher.
Lenders and mortgage companies may want to audit their loan portfolios to ensure that property coverage adequately offsets inflation. Lenders should review and discuss methods and data sources for calculating replacement costs. Most insurers and appraisers estimate construction costs using Marshall & Swift cost data. Marshall & Swift monitors the factors that drive the cost of construction and the actual building component costs of the tracts. Marshall Valuation Service reflects data in hundreds of locations throughout the U.S. and Canada.
We apologize, Mr. Borrower, but your insurance coverage must equal or exceed the loan amount and cover the replacement cost of the dwelling and its appurtenant structures.
The current state of the Insurance industry in California:
Carriers are suffering a triple whammy of negative factors. There are current historic increases in construction costs, outpacing inflation, and an expanding number of catastrophic events (natural disasters). Additionally, the reinsurance market has collapsed. Companies have sent non-renewal notices to current policyholders and declined to approve new insurance policies. State Farm is keeping its recent book of insurance active.
AIG and Chubb are canceling or reducing insurance coverage for homeowners and businesses. State Farm and Allstate, America’s largest personal lines insurers, ceased accepting new applications for business, personal lines, and casualty insurance. Catastrophic events, including wildfire exposure, severe storms, hurricanes, tornadoes, floods, earthquake exposure, water damage, and automobile accidents, have become unmanageable without drastically increasing policy premiums.
State Farm suffered a record $13 billion in underwriting losses in 2022, with $4.7 billion in losses the year before. Allstate lost $3.11 billion in 2022. Liberty Mutual Holding Co. lost $3.55 billion, and Berkshire Hathaway lost $3.10 billion. Chubb reported a loss of $2.182 billion in 2022. The Travelers lost $1.877 billion in 2022, while RPProgressive $1.66 billion.
Currently, rates are skyrocketing, sometimes doubling or tripling in value. Yesterday, coverage was $3,000 annually; today, it may be $9,000. Paying the additional premiums significantly dents the average family’s monthly cash flow.
Additionally, there will be increased pressure on California’s Fair Plan, a state-run substandard carrier for individuals who cannot find coverage elsewhere. Everyone knows what happens when the government operates a business enterprise: Inefficiency and decay set in.