Can FAIR Plans Help Build a More Resilient Future

As the wildfires rage on in Los Angeles, estimated damages range from $10 billion to $30 billion-and possibly even more as the fires continue to burn. The impending payouts from insurers loom large in the background, especially given the turmoil that already existed in California's troubled insurance and housing markets.

To date, the insurance industry's response to mounting disaster costs (in California and elsewhere) has been to increase premiums, limit coverage, and stop writing coverage altogether in climate-vulnerable locations. In the end, who ends up paying for these disasters? The reductions in availability and affordability of insurance will ultimately result in the costs of disasters being increasingly shouldered by homeowners, unless insurers, states, and the private sector can come together to reduce these catastrophe risks.

The inexorable rise of state FAIR plans

When insurers drop homeowners' coverage, many consumers turn to state-owned and -operated insurers of last resort. Thirty-four states and the District of Columbia have established residual markets to write insurance for risks that private insurers are not willing to take on. In most of these states, legislation establishes a Fair Access to Insurance Requirements (FAIR) plan (it may go by other names depending on the state). FAIR plans are operated by state governments and act as a safety net by providing insurance to property owners who cannot obtain traditional insurance because they are considered high risk, typically due to factors like location, property age, or construction type.

Learn More: Hazard Mitigation

FAIR plans, or "beach and windstorm" plans in coastal states, typically rely on a combination of funding sources to pay claims, including premiums, assessments, reinsurance, and government support. FAIR plans provide insurance coverage that is generally more expensive than rates charged by private insurers and provide less coverage or only provide coverage against certain hazards. For example, in California, the FAIR plan is best known for providing coverage against fire. State plans in Texas and North Carolina provide wind coverage, since hurricanes are among those states' biggest risks; flooding is covered by the National Flood Insurance Program (NFIP).

Given that FAIR plans are operated by state governments, who's on the hook if a major disaster occurs and damage claims exceed what the FAIR plan can afford to pay out? In that case, FAIR plans must resort to assessments. Assessments refer to the charges imposed by the FAIR plan on insurance companies and individual, non-FAIR plan policyholders to cover losses incurred by the plans and are often distributed based on insurers' market share. Critically, in states like Florida, Louisiana, and, most recently, California, insurers are allowed to recoup amounts levied in an assessment, typically in the form of a premium surcharge to non-FAIR plan policyholders, potentially making insurance even less affordable.

For example, in California, if the FAIR plan can't meet its obligations, it can bill the insurers for the shortfall in accordance with their respective market shares in California. If the assessment is for $1 billion or less, the insurers can pass on half the amount to policyholders; if the assessment is for more than $1 billion in a calendar year, the insurers can pass on the entire amount to policyholders, following approval by the California Department of Insurance. In Florida and Louisiana, insurers are allowed to recoup the entire assessment directly from policyholders, regardless of the amount assessed.

Affordable insurance requires risk reduction

As disasters continue to manifest across the country, FAIR plans are growing fast in California (due to wildfires) and in Louisiana and Florida (due to hurricanes) as private insurers drop customers. Given the accelerating pace of disasters, the future growth of FAIR plans in these and many other states seems inevitable.

In order to limit additional burdens on state FAIR plans and policyholders, states must rethink how these plans work and, crucially, how they can support and incentivize risk reduction efforts-also known as hazard mitigation-to help communities, municipalities, and states reduce their vulnerability to future disasters while keeping the insurance markets competitive and insurance premiums affordable.

Private insurers don't always go very far to help their policyholders reduce their risks. The first time a homeowner may hear from their insurer that they live in a risky area is when their premiums increase or when their policy is canceled. And even if policyholders take steps to make their homes less vulnerable to a disaster, insurers are often reluctant to reduce their premium to reflect those hazard mitigation actions given the additional costs and intricacies of introducing new variables into their underwriting models or verifying the action was actually taken.

But states should be more motivated to help their FAIR plan policyholders mitigate risk, because they can't simply drop insurance coverage for properties deemed too risky. Unlike a private insurer, who might simply drop coverage on a high-risk property, state-operated FAIR plans should have a vested interest in helping policyholders reduce their risks and make their homes less vulnerable.

Learn More: Protecting Yourself from Wildfires

State FAIR plans could become hazard mitigation service providers in addition to being insurers of last resort. These plans could coordinate with state emergency management offices to offer resilience audits, where a trained professional can point out specific ways a home can be made safer from expected disasters and hazards (e.g. wildfire in the West, hail or tornadoes in the Midwest, wind damage in the Southeast). In addition to providing information on how policyholders can reduce their risks, states could also secure funding to help implement practices like more resilient roofs, defensible space, and more. Hazard mitigation measures can be tied to FAIR plan requirements to reduce risks and costs associated with insuring properties in high-risk areas.

Just as FAIR plans could work directly with their policyholders, states need to step up to reduce risks for homeowners at broader spatial scales through climate adaptation measures. Strategies like strengthening building codes, adopting forward-looking climate resilience plans and more robust land use criteria, and improving wetlands protections and floodplain management are tangible ways that state governments can help reduce the impact of disasters.

The implementation of hazard mitigation by homeowners, along with climate adaptation by government and private sector should ultimately lead to:

• Reduced property damage from climate disasters
• Reduced claims payouts due to extreme weather events
• Lowered risk for insurers and FAIR plans
• Continued protection for at-risk regions and communities

This, in turn, should help lower insurance claims and stabilize premiums, making coverage more affordable and sustainable for homeowners in risky regions.

Existing programs that incentivize resilience

Hazard mitigation and climate adaptation enhance community resilience and the long-term viability of FAIR plans. Programs like the Fortified Roof program in Alabama and the NFIP understand this concept. By incentivizing policyholders to adopt risk-reduction measures through premium discounts, these plans encourage proactive safety efforts. Collaboration with government agencies for funding and large-scale projects can further reduce systemic risks, ensuring that FAIR plans remain financially stable and capable of providing essential insurance to at-risk communities.

In Alabama, the Alabama Department of Insurance administers a voluntary program, the Fortified Roof program, that encourages insurers to provide discounted premiums for homes that have been reinforced with a "Fortified" designated roof. Other states can work toward similar interventions to ensure reduced insurance premiums for policyholders, increased community resilience to climate disaster, and create a more sustainable built environment.

The NFIP, which is administered by the Federal Emergency Management Agency (FEMA), unlike private insurance companies, not only provides government-backed insurance against flood damages, but also provides assistance to communities and individuals to help reduce the risk of flooding.

While insurance itself will not solve the climate crisis, it can certainly become a lever to incentivize the protection of our communities through more resilient building. Hazard mitigation can complement FAIR plans by helping reduce the vulnerability of homes and neighborhoods, leading to safer communities, reduced financial strain on insurance programs, and more affordable access to coverage for at-risk populations.

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