How Climate Change Is Affecting Flood Insurance

Climate change is making natural disasters more intense and more frequent, especially floods. Floods are caused by storm surge, extreme rainfall, and river overflow, and they can damage homes, businesses, and infrastructure. According to the Federal Emergency Management Agency (FEMA), floods are the most common and costly natural disaster in the United States.

To protect themselves from flood losses, many Americans rely on the National Flood Insurance Program (NFIP), a federal program that provides affordable flood coverage to homeowners and renters in participating communities. However, the NFIP is facing big challenges as climate change increases the flood risk and the cost of claims. The NFIP is also under pressure to reform its pricing system to reflect the true risk of each property and to encourage risk reduction measures. In this article, we will explore how climate change is affecting flood insurance, what changes are being made to the NFIP, and what implications these changes have for homeowners and the real estate market.

How Climate Change Is Affecting Flood Risk

Climate change is altering the frequency, intensity, duration, and location of floods in various ways:

Sea level rise: As the oceans warm and expand, and as glaciers and ice sheets melt, sea levels are rising globally. This increases the risk of coastal flooding from storm surge and high tides, especially during hurricanes and nor’easters. Sea level rise also exacerbates saltwater intrusion into freshwater aquifers and wetlands, affecting water quality and ecosystems.

Extreme precipitation: As the atmosphere warms, it can hold more moisture, leading to more intense and longer-lasting rainfall events. This increases the risk of inland flooding from overflowing rivers, lakes, and streams, as well as urban flooding from overwhelmed drainage systems.

Drought and wildfires: As temperatures rise and precipitation patterns shift, some regions may experience more frequent and severe droughts and wildfires. This reduces the vegetation cover and soil moisture that help absorb rainfall, increasing the risk of flash floods and mudslides.

These climate impacts are already being felt across the country. For example:

In 2022, Hurricane Ian hit Florida’s Sanibel Island hard, causing widespread flooding and damage. The estimated total insured losses from Hurricane Ian range from $53 to $74 billion, with flood-based losses projected to be another $10 billion.

In 2021, a series of storms dumped record-breaking rainfall on parts of Kentucky and Missouri, triggering devastating floods that killed at least 10 people and displaced thousands more.

In 2020, wildfires ravaged California, Oregon, Washington, and Colorado, destroying millions of land acres and thousands of homes. The fires also increased the risk of post-fire flooding and debris flows that could threaten lives and property.

These events among many others illustrate the need for better flood preparedness and protection in a changing climate.

The Impact on Flood Insurance

The National Flood Insurance Program (NFIB) was created in 1968 to provide affordable flood insurance to homeowners and renters in exchange for local floodplain management regulations. The NFIP also aims to reduce flood risk by mapping flood zones, promoting mitigation measures, and providing disaster assistance.

However, the NFIP has been struggling to keep up with the rising costs of flood claims due to climate change and other factors. The NFIP operates on a cash basis, meaning that it pays claims from the premiums it collects each year. When claims exceed premiums, as they often do after major disasters, the NFIP borrows money from the U.S. Treasury to cover the shortfall. This frequently resulted in the need for Congress to authorize funding to continue the program.

Another challenge the NFIP faced was an outdated pricing system. Previously the NFIP set its rates based on historical flood data and average nationwide costs. This means that some properties were overcharged while others were undercharged for their actual flood risk. The NFIP also offered subsidies and discounts to certain properties that were built before flood maps were available or updated.

These practices were criticized by some constituencies as being unfair, inefficient, and unsustainable. They also created perverse incentives for people to build or stay in high-risk areas without taking adequate mitigation measures.

To address these challenges, FEMA has announced a major overhaul of its pricing system called Risk Rating 2.0. This new system uses more sophisticated data and models to estimate the flood risk for each individual property based on its location, elevation, structure, and other factors. It contemplates the size of a home, the cost of rebuilding, and different types of flooding sources. The goal of Risk Rating 2.0 is to make flood insurance more accurate, fair, transparent, and equitable for financial stability of the National Flood Insurance Program.

What Implications Do These Changes Have?

As of April 1, 2023, FEMA has fully implemented the National Flood Insurance Program's (NFIP) Risk Rating 2.0 pricing methodology. The methodology leverages industry best practices and cutting-edge technology to enable FEMA to deliver rates that are actuarially sound, equitable, easier to understand and better reflect a property’s flood risk.

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