Financial Issues

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Insurance Crisis

Weathering the Insurance Crisis

A lack of insurance availability and affordability could keep buyers out of new homes.

BY PAUL BEAKLEY

As Fran Noe, a REALTOR® with West USA Realty in Phoenix and her husband, William, planned their new retirement home in Sun City, Ariz.., insurance was the last thing on their minds. After all, they’d had 23 years of continuous coverage with the same insurer before they’d sold their home and temporarily moved into a rental unit. But as the Noes’ home neared completion, their insurance carrier refused to write a homeowners’ policy for them.

The reason? A $900 claim for landscape damage done to the front yard of their old home by a drunk driver more than a year ago. Otherwise, their insurance record was pristine—no claims for 10 years and a 800+ FICO rating out of a possible 850 points.

“I was shocked to be treated this way after 23 years as a paying customer!” Noe exclaims. “ I asked if they were kidding.”

Then Noe started calling insurance companies—and called most of the major carriers. “They all told me the same thing—no coverage. I started crying. I was afraid we’d be out of a house forever because we couldn’t get insurance.”

Noe’s story is becoming all too common. REALTORS® across the country are increasingly aware of the role that insurance availability and affordability plays in the real estate transaction – and that a shortage of either can keep people out of new homes.

According to figures from the Insurance Information Institute, the average homeowners’ policy rose from an estimated $488 a year in 1999 to $553 in 2002. The trade group projects that premiums will rise by another 8 to 10 percent in 2003. The Institute points out that this figure still accounts for only about 0.34 percent of the median cost of a home, less than it did in 1999. But with home prices increasing at record levels over the last few years, the percentage can be somewhat misleading. And for buyers already stretching to afford homes that have increased in value by 10.9 percent between 1999 and 2001, even a 13 percent average increase may make the difference between buying the home they want or settling for something less.

Early Warnings

The current homeowner’s insurance crisis isn't unprecedented. A higher-than-average number of natural disasters occurred in the 1990s. In fact, according to the Insurance Services Office, a private supplier of claims data, catastrophic losses between 1989 and 1997 were 68 percent higher (in inflation-adjusted dollars) than the total of such losses between 1959 and 1988.

As a result, homeowners in areas affected by major disasters such as the Northridge earthquake in California (a $15 billion loss in 1994) of Hurricane Andrew in Florida (a $15.5 billion loss in 1992) faced significant spikes in insurance premiums.

What’s different this time is that significant premium increases and availability issues aren’t just limited to a few areas. They’re surfacing almost everywhere and disrupting markets from New York to Arizona. And a variety of factors are contributing to the crisis' widespread nature.

Hype and hysteria surrounding the evils of mold have led many insurance underwriters to fear that mold awards will rival or exceed those for asbestos or lead-based paint. In Texas alone, mold claims rose by 1,286 percent between first quarter 2000 and fourth quarter 2001, according to the Texas Department of Insurance.

The efforts of many states to keep consumer insurance rates low also helped produce current shortfalls in insurance liquidity. In many instances, insurers kept premiums artificially low in the 1990s--despite the rising cost of claims--as they competed for market share. In some states, such as California, insurance companies must go to the insurance commissioner for every rate increase, making it more difficult for insurers to keep up with rising costs.

The declining stock market also contributed to the falling resources of insurers. In the late 1990s, insurance companies had annual market returns of between 18 and 35 percent to offset losses and keep premiums low. But when the Dow fell 5 percent in 2001, the companies couldn't count on stock gains to offset losses. Between casualty losses, flat rates, and poor investment performance, the insurance industry posed its first recorded yearly loss—about $7.9 billion—in 2001.

Battening Down the Hatches

If a buoyant economy protected many homeowners against concerns about rate increases until recently, those in states with frequent natural disasters in the past have already been working to protect insurance availability and preserve affordability.

State-based Fair Access [Mass Plan] to Insurance Requirements, or FAIR, coverage already provides coverage for those who can't get insurance any other way. Federally mandated since 1968, this “insurance of last resort” was first created to help homeowners who had difficulty getting insurance after urban riots. FAIR plans are generally administered through semi-public corporations supervised by a state’s insurance department or commission.

FAIR coverage satisfies lender requirement to fund a mortgage, but in most cases, it provides insufficient protection to homeowners. It’s also relatively expensive, which may have dire implications for first-time or lower-income homebuyers.

Today, FAIR plan coverage is available in 34 state, although it’s still generally limited to fire coverage. Only 10 states, generally those that have the highest incidents of natural disasters, offer full homeowner’s coverage through FAIR, but more are considering using FAIR as a way to address the growing unavailability of insurance.

For example, the North Carolina Association of REALTORS® helped sponsor a 2002 bill that transformed their state’s wind-damage insurance policy of last resort, called the “Beach Plan,” into a full-blown homeowner’s insurance plan. However, the legislation states that the Beach plan can’t be better than what’s offered on the open market and its current rates are comparable to those from private insurers. North Carolina has also incorporated an automatic binder into the Beach Plan that gives a homeowner automatic coverage as soon as the first mortgage payment is made. The binder prevents insurers from refusing to offer the coverage indicated in the binder after the escrow has closed, a problem that has occurred in some areas. So while the program gives homeowners and real estate practitioners the certainty that they can obtain insurance, it doesn’t provide relief from affordability concerns.

Other states are attacking the insurance availability issue with attempts at increased government control of the industry. In Texas—which has been reeling from multi-million dollar mold settlements—the department of insurance is considering bringing all insurers in the state under rate regulation.

Currently, national carriers in the state can't raise rates more than 30 percent annually. But to get around these regulations, carriers are shifting policies to subsidiaries, called Lloyds, which aren’t regulated. These companies, which have no relation to Lloyd’s of London but work on a somewhat similar principle, market the services of a group of individual underwriters, each of whom assume a part of every risk. Currently, says Lee Jones, a spokesperson for the Texas Department of Insurance, about 95 percent of Texas’ homeowners policies are written by Lloyds companies. And these companies have been raising premiums by as much as 300 percent over the last year.

“The NAR leadership team recognizes the importance of the insurance issue for our members and their clients,” says Mike Schmelzer, chair of the group and 2003 NAR Vice President and Liaison for Government Affairs. “The task force is committed to developing a plan of action for NAR that will ease the difficulties facing our members in their day-to-day business, ensure the continued marketability of all properties, and support changes that will mitigate future ‘hard insurance market’ conditions. We view this as a long-term project, but believe that there is much that we can do to make our members aware of how insurance needs can be met in the short term.”

“In the short term, NAR needs to get information out to the membership,” says Marcia Salkin, NAR staff liaison to the Task Force. “We’ve found that even experienced real estate professionals may not be aware of the changes in the underwriting side—such as the use of the CLUE scoring system to preemptively disqualify applicants.”

The task force is also working with Fannie Mae and Freddie Mac to discuss how their deductible limits, high coverage requirements, and other underwriting policies are impacting builders’ ability to provide affordable new product to the housing market, says Salkin.

Another important medium-range goal for the Task Force is creating language that state REALTOR® associations can use when pursuing local insurance reform. “We can act as a resource for the state associations, provide research on what other states have done regarding insurance underwriting and CLUE scoring, what exclusions in policies they’ve allowed, and what has been successful in mitigating problems around the country,” Salkin says.

In the long term, the task force may take on such topics as tort reform in an effort to stem the tide of high punitive damages that escalate insurance costs. But tackling the insurance problem at the court level can be challenging, acknowledges Nick French, a former attorney, task force member, and vice president of Sotheby’s International in Santa Fe, N.M.

“We’d like to make it possible for a defendant to move a class action suit out of a jurisdiction know for awarding high punitive damages and into ones that are more representative of the whole country,” says French.

But some larger real estate companies aren’t waiting for governments to implement reforms. They’re taking action to keep insurance problems from hurting their business. For example, Century 21 Moneyworld in Las Vegas, has added a requirement to its sales contract that a buyer must be prequalified for homeowner’s insurance before executing a purchase agreement. According to J.C. Melvin, regulatory compliance manager for the office, Century 21 got an early heads-up on the situation because they also own an insurance company.

The Calm After the Storm

In the final analysis, the insurance crisis is creating problems, but it’s far from bringing market activity to a halt. Early research by the NAR Insurance Task Force indicates that while the inability to secure insurance is sometimes delaying transactions and undoubtedly raising costs, few deals are actually falling through.

“We’re business people. We’re not suggesting we get something for nothing. But if you don’t have insurance available to you in the market, you can’t close the deal. Your house isn’t selling. There has to be give and take on both sides” says Dean Saunders, owner of Saunders Real Estate in Lakeland, Fla., task force member, and a former Florida state legislator.

Ultimately, Fran Noe did get coverage--and from her original insurer. After going to other insurance companies, she called her original insurer once more and got a manager to take one last look at her CLUE report. This, her third attempt, was the charm. The manager saw that the damage to her front yard wasn’t her fault, and decided to take another look, this time favorable, at her policy.

What REALTORS® Can Do

Gone are the days that homeowner’s insurance could be an afterthought to the transaction. REALTORS® can help their clients through today’s insurance minefield safely. Here are some ways that prospective buyers can reduce the likelihood of an insurance problem.

1. Keep credit clean. Insurers believe consumers with good credit scores tend to keep up their homes, says the Insurance Information Institute.

2. Opt for a higher deductible. If the buyers can afford to raise it to $1,000, they could save as much as 25 percent on premiums, the Institute says.

3. Avoid smaller claims. Don’t take a chance on getting a claim on your record just to recoup negligible costs. You might pay for it with higher premiums or even denied coverage.

4. Obtain a comprehensive loss underwriting exchange (CLUE) report from sellers. Sellers can contact Alpharetta, Ga.-based ChoicePoint, which compiles information on insurance claims, businesses, and more, at 866/527-2600. Reports cost about $8.

5. Get prequalified for coverage before going into escrow. Many big firms are building this into their boilerplate sales agreement. Prequalification also protects buyers from having to scramble for coverage and potentially lose the home they want.

6. Find out who is writing insurance. Many state insurance departments maintain lists of insurers who are currently writing policies. Just because the “Big Three” (State Farm, Farmer’s, Allstate) make up the majority of the market doesn’t mean there aren’t other players. “People who go to the Big 3 in Texas miss out on the 120 other companies out there. We tell them to be more aggressive,” says Lee Jones of the Texas Department of Insurance. Texas created a special Web site to help people find carriers who are still in the market.”

7. Chose a lender that has an insurance subsidiary. It’s no guarantee, but buyers might get a better hearing on insurance from lenders such as Citi Mortgage or Countrywide that have insurance affiliates.

8. Go the extra mile. In Fran Noe’s case, persistence and a chance to talk to a real human being made all the difference in her ability to get insurance. Ask to speak to a manager if you feel a past claim shouldn't be held against the client.

9. Beware of home features that don’t meet current underwriting standards. For example, some insurers are refusing policies to homes with fuse boxes instead of circuit breakers or to homes with wood shake roofs that could more easily let in water.
   
   More Resources:
   The Property Casualty Insurance page, under Federal Issues at Realtor.org.
   The NAR Field Guide to Insurance Availability, by Frederik Heller.
   Running for Coverage, Robert Freedman, September 2002.

"Reprinted from REALTOR® Magazine (http://www.realtor.org/realtormag) with permission of the NATIONAL ASSOCIATION OF REALTORS^®. Copyright 2003. All rights reserved.”