Homeowners Insurance: A Balancing Act of Rising Costs and Diminishing Coverage
In recent times, homeowners across the nation have witnessed a significant surge in the cost of their insurance premiums, often coupled with a reduction in the scope of their coverage. The insurance industry is grappling with the financial impact of increasingly frequent and severe weather events, coupled with escalating construction expenses. This confluence of factors is leading to higher rates and altered policies, particularly in regions susceptible to natural disasters.
The Personal Impact
Dave Davis, an insurance agent based in Rapid City, South Dakota, recently experienced this firsthand. A long-term client, with a relationship spanning two decades, informed Davis that they were switching agencies due to a $2,000 increase in their annual premium. “He said, ‘I want you to know because you’ve taken care of me all these years: I had to switch. My homeowners went up $2,000. I had to switch,'” Davis recounted.
National Trends
The trend is not isolated. According to a report from S&P Global, nationwide average premiums increased by 34% within a seven-year period. In some areas, the increase has been even more pronounced, reaching 41% in South Dakota. Over the same timeframe, inflation increased 24%.
Simultaneously, homeowners are receiving less for what they pay, as insurers are modifying coverage terms for common risks like wind and hail damage.
Factors Driving Premium Increases
Insurance experts attribute the rising costs to financial stress within the industry. For several years, premiums in many states have not kept pace with payouts for property damage, with catastrophic events being a major driver.
- In Florida, this is largely due to hurricanes.
- In California, Montana, and other western states, wildfires are the primary concern.
- In the Upper Midwest, severe storms, encompassing wind and hail, pose the greatest threat.
Underlying these events is the surge in construction costs, which adds to the financial strain. Beyond the protection of an important investment, homeowners insurance is often a requirement for those with mortgages. Shannon Martin, an insurance agent and analyst with Bankrate, highlighted the affordability of homeownership as a growing concern.
“What’s happening to the people who already have homes and they’re 15 years into a 30-year mortgage, and now their insurance is completely unaffordable?”
Areas with the Sharpest Premium Hikes
The states experiencing the most rapid premium increases align with those prone to tornadoes, hail, or wildfires, primarily west of the Mississippi. This includes South Dakota, Minnesota, and Montana.
How Premiums Are Calculated
Insurance companies generally aim to set rates that are competitive yet ensure they can manage financial risks and maintain solvency, which means being able to pay claims. Insurance regulators, aware of this balancing act, closely examine premium increase requests to ensure their fairness.
As Julia Dreier, Minnesota’s deputy commissioner for insurance, noted: “Typically, what we had seen in an insurance market is you’d expect some years of loss but some years where they’re not losing as much money. And we’ve just seen five-plus years of sustained losses.”
Insurers frequently absorb losses through revenue from other sectors, such as auto insurance or investments. However, consecutive years of substantial losses inevitably lead to premium hikes.
Measuring Industry Health: Underwriting Profit and Loss
The National Association of Insurance Commissioners (NAIC) compiles data on underwriting profit and loss, a key metric for assessing the health of the homeowners insurance industry. From 2018 to 2022, data shows insurers across the U.S. experienced losses in four of five years, including Minnesota and South Dakota. In Montana, this was the case for three out of the five years.
The Impact of Catastrophic Weather
Tim Zawacki, an analyst with S&P Global, described 2023 as a “terrible” year for homeowners insurers, attributing the difficulties to a series of catastrophic storms. Industry experts cite increasing weather-related damage, reduced investment yields, and inflation-driven construction expenses as contributing factors.
Severe storms, encompassing hailstorms, straight-line wind, and tornadoes, caused $246 billion in damage to U.S. properties between 2014 and 2023. Tropical cyclones, such as hurricanes, caused $692 billion in damage.
2023 was notable for damage from severe storms, which exceeded all other years since 1980, when record-keeping began.
The Perspective of Local Agents
Davis emphasized that the Rapid City area is particularly susceptible to hail. He noted that hailstorms were responsible for twenty-eight catastrophic losses throughout his 28 years managing his agency.
In the 1980s, the U.S. averaged 1.8 billion-dollar disasters annually. By contrast, this figure rose to 14.4 per year in the decade ending in 2023, with damage estimates adjusted for inflation.
The Role of Climate Change and Other Factors
The increased frequency of catastrophes is linked to a combination of factors. Climate change, in particular, likely plays a significant role, influencing everything from the intensification of hurricanes to the lengthening of wildfire seasons. Insurance regulators have also noted an extended hail season, a trend that scientists anticipate will persist as the climate warms. For instance, in South Dakota, the average hail season has grown from 138 days in the 1970s to 173 days between 2014 and 2023, resulting in an additional month of hail annually.
Inflation’s Impact on Reconstruction Costs
The burgeoning construction costs have made the task of rebuilding after a disaster more expensive for insurance companies. The U.S. Census Bureau’s price index for single-family home construction rose by 50% between December 2017 and December 2023, compared to an overall inflation rate of 25%.
Insurer Strategies
To manage their risk, insurance companies also rely on reinsurance. As Zawacki notes, companies now possess a better understanding of their financial exposure, which enables them to assess how much reinsurance is needed effectively. However, the cost of reinsurance has itself increased. In the last couple of years, the index that measures reinsurance costs for property insurers, including homeowners insurance providers, has increased by double digits.
‘Shrinkflation’ in Insurance
Homeowners now face greater rate disparities within the same region based on individual property risks due to advanced data analysis. Insurers are also decreasing standard coverage while premiums increase. For example, in hail-prone areas, homeowners often bear a significantly larger portion of roof repair costs.
In addition to increasing premiums, insurers have adopted a similar strategy to the food manufacturers’ “shrinkflation” strategy, where packaging shrinks while prices stay about the same.
Reduced Coverage and Increased Deductibles
Hail damage, which was once treated with similar deductibles as other types of damage, now has deductibles that are a percentage of a home’s value, which presents a greater obligation for the homeowner. Additionally, various insurers may no longer cover metal trims and doors, which could cost a homeowner thousands of dollars. Many insurers are also refusing to pay for full replacement costs for older roofs, and are subtracting depreciation.
Insurer Retreats
Insurers are increasingly withdrawing from high-risk areas, especially those prone to wildfires or hurricanes. This is occurring in California and Florida, with some pullback reported in parts of Montana, Minnesota, and South Dakota.
Proactive Measures
Dreier said that Minnesota is monitoring the state’s insurance market to take proactive steps to ensure its health. One example is a program to help homeowners fortify their roofs in exchange for premium discounts.
Homeowners Accepting Increased Risk
Insurers are facing less pressure so far in 2024 due to fewer catastrophic events. Consequently, industry analysts say insurers are in better financial condition. However, premiums continue to increase faster than inflation and wages.
Homeowners are responding by seeking less expensive coverage, and sometimes forgoing insurance altogether. Davis observes that homeowners “are picking up more of the risks themselves. That’s what insurance is. It’s a transfer of risk for a fee. Well, if you transfer less of it, the fee goes down.”
A Growing Number of Uninsured Homeowners
Around 7% of U.S. homeowners are uninsured. This figure is higher in states that face frequent catastrophes and have higher premiums.
Zawacki expresses concern about an increasing trend where homeowners are dropping their insurance, which he views as a risky practice.
He states, “Having had a large claim on my house at one point, it just blows the mind how all the costs add up. We know from the data about savings rates that most folks don’t have the financial wherewithal to retain the full amount of the cost they would require to rebuild their homes.”
