Should Canada’s flood insurance program combine NFIP and Flood Re?

Canada could benefit from a flood protection program combining the features of the U.S. National Flood Insurance Program (NFIP) and U.K.’s Flood Re, says credit rating agency DBRS Morningstar, but that view is not entirely shared by Insurance Bureau of Canada (IBC).

“A public-private partnership, such as that developed in the U.K., is the best fit for Canada. But the mechanics of a pool would be different,” said Craig Stewart, vice president of climate change and federal issues with IBC, in an interview with Canadian Underwriter.

In its commentary released last week, What a Much-Needed Canadian Flood Insurance Program Could Look Like, DBRS Morningstar acknowledged NFIP has its shortcomings, but said such a program could be beneficial in Canada if steps were taken to avoid its flaws. NFIP is risk-based, requiring residents living in flood-prone areas to pay premiums to cover future claims.

“A program like the NFIP has the potential to reduce taxpayer outlays, since it would receive premiums to offset claims,” said Victor Adesanya, vice president of insurance at DBRS Morningstar, in a press release. “However, a risk pool like Flood Re would ensure industry participation and a potential reduction in insurance costs for homeowners since the exposures are shared by the industry instead of one insurance company.”

Stewart said IBC believes  Canada needs a bespoke program that builds on the lessons learned from both the NFIP and Flood Re. Taken by themselves, neither of these models is wholly appropriate for the Canadian circumstances, he added.

“We agree with the DBRS report that whichever program we land on in Canada [needs to be] developed to provide the right incentives to ensure Canadians are not living continually in harm’s way,” Stewart said. “The DFAA [Disaster Financial Assistance Arrangements program], as the report points out, is not a sustainable approach. We can’t be bailing out homeowners going forward.”

The DBRS Morningstar commentary discusses options available to the Canadian government as it moves forward with its upcoming national flood insurance program.

The report highlighted the following shortcomings of the NFIP, which DBRS Morningstar says must be solved when designing a similar program for Canada:

• The continuous renewal of flood insurance policies despite the claims experience
• No limit to the number of claims that can be made on a property over time, which in some cases, results in the aggregate claims being paid exceeding the value of the property
• Increasing premiums is one solution, but that step poses a public policy issue of affordability. Those who struggle to meet higher premiums would also be unlikely to have the resources to relocate. “This suggest there may be a role for the government to subsidize either the insurance fund or the cost of relocating households and businesses or both,” the report said. “There does appear to be a need for the government to perform a backstop role, as the U.S. federal government does for the NFIP.”
• The program is not structured to provide incentives to homeowners/businesses in high-risk locations to relocate, even after their properties have been damaged. As a result, buildings affected by flooding are being rebuilt in the same location only to get damaged again by subsequent flooding.

“As we saw recently in Fort McMurray, we should really discourage rebuilding on floodplains,” Stewart said. “We believe the federal government has a number of levers to discourage rebuilding. We’re looking forward to exploring those with governments to discourage those bad practices in the future.”

Underpriced premium is another concern. The DBRS Morningstar report noted the agency that administers NFIP needed to borrow US$17.5 billion to settle claims related to Hurricanes Katrina, Rita and Wilma. “This situation can be avoided in Canada if the rates charged for a Canadian insurance program are sufficient to cover claims.”

Stewart said any solution in Canada needs to be constructed to maximize participation in the risk pool. “And that means addressing affordability head-on. Typically, that will mean capping coverage… so that, although expensive, [premiums] are affordable.”

Governments hold the risk today because of poor planning decisions over the past two centuries. “And as a result, insurers are not keen to take on that risk.”

Stewart predicts there will be a lot more analysis of Canada’s national flood insurance program in the next six months. “Conversations are really heating up now.”

Feature image by iStock.com/GEFHunter