March 28, 2018
Howard Kunreuther and Marilyn Montgomery
Accurate flood hazard maps are needed to set risk-based insurance premiums and to effectively communicate flood risk to families, communities, and other stakeholders. Insurance not only provides financial protection against flood damages, but can also incentivize property owners to undertake cost-effective mitigation measures to reduce future flood losses and recover more rapidly when disaster strikes.
FEMA’s Flood Insurance Rate Maps (FIRMs), the basis for insurance pricing in the National Flood Insurance Program (NFIP), currently do not accurately depict the true flood risk for individual properties. FIRMs delineate the 1% annual chance flood zones along with the elevation that flood water is expected to rise above during a 1% annual chance event (called “base flood elevation”), ignoring floods of different magnitudes. For example, within the 1% annual chance floodplain are areas at risk to shallow yet more frequent events such as those with greater annual chances (e.g., areas vulnerable to 10% and 4% annual chance events). In many communities, FIRMs are also inaccurate or outdated. For this reason, the Technical Mapping Advisory Council (TMAC) recently recommended that FEMA implement a “structure-specific flood frequency determination” for insurance rating purposes.
In a recent study published in the Journal of Extreme Events, we and our co-authors evaluate the impact that improved technology and mapping methods could have on flood insurance premiums. Using Light Detection and Ranging (LIDAR) technology, Hazus depth-damage curves, and the foundation types and first floor elevations of structures collected by the North Carolina Floodplain Mapping Program, we calculate risk-based premiums are calculated for nearly 12,000 North Carolina homes and compared them to current NFIP rates. North Carolina Floodplain Mapping Program has taken advantage of LIDAR and other remote sensing technologies to map structure-specific characteristics that are required for accurate risk-based pricing of flood insurance. Specifically, the foundation types and first floor elevations of numerous buildings in North Carolina have been mapped and these data are used for this study.
We look at homes in the counties of Buncombe, Durham, and New Hanover. For each structure, we calculate the average annualized loss (AAL) per $100 of coverage and compare it to the estimated NFIP risk-based premium per $100 (excluding administrative costs). The AAL considers 10%, 4%, 2%, 1%, and 0.2% annual chance flood zones with corresponding flood elevations, while NFIP premiums are based on only the 1% annual chance flood zones and base flood elevation.
We find that 93 percent of the homes in the sample have lower risk-based premiums under the AAL methodology than under the current NFIP approach. Across the three counties, switching to an AAL risk-based premium would reduce NFIP risk-based premiums from $1,457 to $620. Table 1 provides a summary of premiums by county and the full sample.
The data from the three counties in North Carolina reveals that risk-based premiums may lower the cost of flood insurance for most households. AAL premiums were higher than NFIP premiums for very expensive low-lying buildings that can incur high damages from frequent shallow flooding (i.e., floods with greater than 1% annual chance) that are not considered explicitly in NFIP premium calculations. Table 2 illustrates the distribution of NFIP and AAL premiums across these counties.
Having accurate knowledge about flood risk is a first step in encouraging homeowners to adopt flood loss reduction measures that would reduce their property damage and hence their premiums. For example, identifying homes in the most likely flood risk zones, such as those in the 10% annual chance zones, may be important in developing criteria for prioritizing flood risk mitigation.
For this study we estimated AAL and NFIP premiums based on available data without considering the actual premiums that current NFIP policyholders are paying. It will be important to determine how many NFIP policies are subsidized today to determine the financial impact of moving to risk-based premiums. If risk-based rates pose financial challenges to some low- and middle-income families, it will be important to develop programs to address affordability and fairness issues for those who are required to purchase flood insurance and those who are currently uninsured but need protection to deal with future flood damage.
Should FEMA move to risk-based rates, there will be an opportunity to develop risk scores that specify the severity of the hazard for existing and proposed structures that are subject to damage from riverine floods and storm surges from hurricanes, as recommended in the 2017 TMAC Annual Report (2018). A current conditions risk score could be used for rating insurance policies; a future conditions risk score could be used to communicate future risk and the future insurance premium if no mitigation measures are undertaken to maintain or reduce the structure’s risk.
More details on this study can be found in the paper “Structure Specific Risk Based Premiums” in the Journal of Extreme Events. See full paper here.