TL/DR –
California insurance companies will be allowed to consider climate change when setting prices for insurance policies, a move aimed at preventing insurers from leaving the state due to potential losses from wildfires and other natural disasters. The state will draft new rules to allow insurers to consider future risks when setting their rates, but only if they agree to write more policies for homeowners living in high-risk areas such as those threatened by wildfires. The rule change could mean higher insurance rates for homeowners, but the state’s Insurance Commissioner Ricardo Lara also points out that insurers can consider the state’s efforts and homeowners’ improvements in managing forests and making homes resistant to wildfires.
California Adjusts Insurance Policy to Climate Change
California is allowing insurers to consider climate change in their pricing strategy, a decision aimed at preventing them from retreating due to disaster-related losses. The state’s chief regulator announced the move on Thursday, contrasting with the state’s current policy that only allows insurers to use past property data to set prices.
Insurers have faced challenges in assessing risk on properties due to climate change which heightens the frequencies of wildfires, floods, and windstorms. This predicament has forced seven of California’s 12 leading insurance companies to pause or limit their new business over the past year.
California Insurance Commissioner Ricardo Lara confirmed that new rules will be written to permit insurers to factor future risks into their rates. This will only be possible if companies pledge to offer more policies to homeowners in high-risk areas, including wildfire-threatened communities.
As these changes could potentially result in increased rates for homeowners, eight insurance companies operating in California have already requested rate hikes of at least 20% or higher this year, as reported by the California Department of Insurance.
However, Lara believes that future-focused rate setting doesn’t necessarily have to be pessimistic. Insurers can consider the state’s efforts in better forest management and homeowners’ improvements to make their homes wildfire-resistant. Under the current rules, insurers are unable to account for these factors in rate setting.
According to a report from the First Street Foundation, about a quarter of all USA homes are undervalued for climate risk in insurance. Florida allows insurers to consider climate risk with certain restrictions, while other less regulated states have insurers that incorporate current and future events into their models.
Wildfires have long been a common occurrence in California. However, the increasing heat and dryness have intensified these fires. The California Department of Forestry and Fire Protection reports that 14 of the top 20 most destructive wildfires in the state’s history have happened since 2015.
Insurance companies have often reacted by refusing to renew coverage for homeowners in wildfire-prone areas. These homeowners are then forced to buy fire insurance from the California Fair Access to Insurance Requirements (FAIR) Plan. The number of people on this plan almost doubled in the five years leading up to 2021.
Lara’s solution is to mandate insurance companies to offer policies to at least 85% of their statewide market share in wildfire-risk areas. This would mean a company providing policies for 20 homes would need to write 17 new policies for homeowners in wildfire-affected areas, helping to move these people off the FAIR Plan.
Jeremy Porter, a co-author of the First Street Foundation report, believes that this new approach might increase competition in California’s insurance market. However, some consumer groups demand transparency about the model insurers will use to set their rates under the new rules. Lara assures that he’s committed to making these models public for verification of their accuracy.
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