California insurance rules need to reconsider planning, affordability, experts say

Takeaways:

• Insurance risk models at odds with affordability efforts
• Legal challenges to get claims paid aren't possible for everyone
• Insurance of last resort outpacing private coverage

California's new laws governing home insurance and insurers' handling of wildfire claims are a flawed response to planning and affordability issues, according to experts and attorneys representing both policyholders and insurers.

Home insurance priced based on risk, without causing insurers to operate at a loss, is "different than what's affordable and low cost," said Michael Coffey, founding partner at Coffey Modica LLP. 

"People in areas where the house has burned down twice over the last 40 years, what's a fair price for them to pay? Or else you're having others shoulder their cost," he said. "How are you going to be able to do it – other than what is considered fair and affordable is going to raise. Over time, certain costs in the mosaic of how you spend your dollar are going to change. That portion of your salary, of your expenses for insurance, is going to drastically increase given the payouts,  over the next five to 10 years."

The new laws and proposed legislation can really only be enforced by homeowners and policyholders who "have the means to hire a lawyer," said Keith Meyer, partner in the insurance recovery group at Reed Smith in Los Angeles. "There are a lot of people who lost their homes and lost properties, or had properties that are damaged, that can't afford a lawyer, so they're just hoping the insurers are going to do the right thing. How do people without the means to hire a lawyer ensure that the insurance companies fulfill their obligations? I just don't think this goes far enough."

Economic inequality among homeowners and policyholders dictates how claims are handled, according to Kya Coletta, associate at Reed Smith. "If someone can afford two mortgages, and they refuse to move back into a contaminated home, that's one thing. If they can afford a lawyer, they can actually push back on insurance tactics where they're given all legal jargon and policy provisions," she said. "There's a lot of disparity in how these types of people are being treated by the insurance companies, and that's playing a huge role in their claim resolution."

Lower premiums cannot be practically mandated under insurance actuarial or underwriting models, according to Coffey. Giving an example, he said a premium for a policy that would rebuild a $6 million home cannot be $10,000 or $20,000, and following these models sets that premium between $100,000 to $200,000.

"California has to do a better job of whether they're going to allow people to rebuild in certain areas or not. They've not given enough planning, future thinking to that," Coffey said. "Maybe there's some areas where people should not be building houses. They don't want to say no to people, but it's just a reality that you probably have to do that. The state should be doing a more comprehensive, overall wildfire mitigation plan." 

California's new and proposed laws could worsen the home insurance affordability and availability issues, rather than solving them, explained Beth Swanson, insurance analyst at The Zebra. "If it leads to more administrative costs, then those costs could be then passed on to consumers as well. It might cost us in a different way, even to implement and police fees to make sure that they're happening correctly," she said.

Smaller insurers that have recently returned to California could be overwhelmed by new requirements, Swanson added. "From the consumer perspective, I completely appreciate what they're trying to do," she said. "It could cause them to leave the market again, if they just can't keep up. If they have to hire more administrative people to coordinate some of these new regulations, that can be tough on the insurer, and they may leave the state again."

One of the new laws in place is the FAIR Plan Stability Act (AB 226), which authorizes bonds to improve the finances of California's home insurer of last resort. Meyer pointed out that class action lawsuits have been filed against FAIR, as well as State Farm, over issues with claims from the L.A. wildfires. The California insurance regulator's probe of State Farm's handling of claims does not have the resources or staff to be effective, Meyer said.

The number of new FAIR Plan policies is growing more than the number of new policies being issued by private insurers in the state, as facilitated by state insurance commissioner Ricardo Lara's reforms, advocacy group Consumer Watchdog recently noted. 

AB 226 and the other laws and bills are not "honest with what the true cost is going to be," said Coffey. "They're just looking to shift it over to insurance companies, which really, if you're going to keep doing it, there's going to be a point where you're going to force them into insolvency, or not writing [policies]," he said. "You can assess homeowners, and jump the prices. You can probably float bonds. You can increase taxes. Every way is going to be a painful solution. There's no happy solution."