By Chad Thomas
Florida’s Citizens Property Insurance Corporation (Citizens) is a state-run insurer of last resort for commercial and residential property owners unable to afford a policy in the private market. Citizens tends to insure wealthy homeowners along the coast, where property values and the risk of damage are highest. In 2002, the Florida Windstorm Underwriting Association and the Florida Residential Property and Casualty Joint Underwriting Association were merged to create Citizens.
What distinguishes Citizens from private insurers is the way premiums are priced. To remain solvent, private insurers must charge “actuarially fair” premiums priced to enable them to cover a property’s value in the event of damages specified in the policy. Homes in high risk areas necessarily require high premiums. Citizens may offer premiums below actuarially fair rates, even on high risk properties, leaving it vulnerable to underfunding.
After the catastrophic 2004 hurricane season, when four storms made landfall in Florida, Citizens faced a deficit of $516 million. Adding to its financial difficulties, the company was statutorily bound to insure additional properties after private insurer Allstate stopped writing new policies in the state. Citizens was required to pay off its deficits by assessing premium surcharges on its policyholders – and, if needed, imposing emergency special assessments on the holders of privately purchased insurance policies to cover damages to property, auto, renters, boat, and pets. This practice increases the cost of premiums for policies throughout the state, with all insured parties subsidizing the high-risk Citizens policies. Low-risk policyholders may leave the insurance pool because premiums are increased to cover claims of high-risk policyholders. This increases insurers’ net liabilities.
Subsidized insurance premiums can also create a “moral hazard,” allowing policyholders to make risky decisions because they do not have to bear the full costs of their actions. For property owners paying actuarially fair premiums, rebuilding a home in a high risk area would be prohibitively expensive. Citizens policyholders, on the other hand, could rely on subsidized premiums to cover claims, diminishing the incentive to reduce the risk of property damage.
Without actuarially fair premiums, underfunding is more likely. To forestall deficits, Citizens began depopulating – transferring policies to private insurers. It has reduced its number of policies from a peak of 1.4 million in 2007 to just fewer than 460,000 as of January 31, 2017. Citizens has also stopped insuring dwellings with a replacement cost over $700,000. By 2014, depopulation – and importantly, a fortunate run of 9 years without a hurricane – had enabled Citizens to accumulate a $7.6 billion surplus. This greatly improves its ability to pay claims after a disaster.
Even without a catastrophic storm, Citizens posted a $27.1 million loss in 2016 due to an unexpected increase in nonweather-related water claims such as burst pipes and dishwasher leaks. Unlike private insurers’, unexpected spikes in claims for Citizens may impose costs on all insurance policyholders throughout the state.
Still, the potentials for underfunding, distorting the private insurance market, and incentivizing risky behavior remain. While the mission of Citizens is well-intentioned, not every property in Florida can or should be insured. The moral hazard that Citizens creates can increase the cost of future storms, a cost that is shared by other policyholders in the state liable for special assessments. Allowing the private market to function without subsidies or excessive price regulations would help Florida financially weather future storms.