Creating more capacity on the Texas coastline

Writing property insurance in Texas can be a difficult proposition, especially in a time when the frequency and severity of catastrophic coastal storms is increasing. To address this problem, the Texas Joint Committee on Windstorm Coverage and Budgetary Impact called several hearings throughout the summer to discuss both long- and short-term solutions for insuring Texas against natural catastrophes.

One solution for Texas is to revise the structure and financing mechanisms of the Texas Windstorm Insurance Association, the residual market wind insurer for residents living along the Texas coast. The key goal of reform should be to increase insurance capacity in the voluntary marketplace. Changes to the Louisiana and Florida property insurance residual markets materially increased insurer capacity to write business by adopting new financing mechanisms. Unfortunately, the potential solutions being considered in Texas do not appear to create new capacity.

TWIA’s current funding mechanism was developed in the early 1990s when the association had about one-fifth the exposure it has today. The number of policyholders insured by TWIA is growing dramatically. In 2001, TWIA had 68,756 policyholders. As of July 31, 2006, it had 112,000 residential and 10,500 commercial policyholders in 14 coastal counties and a portion of Harris County. In 1992, TWIA had about $5 billion exposure in these counties. At the end of July 2006, its exposure was $32.5 billion.

Once insurers have paid their initial assessments, the Catastro-phe Reserve Fund has been depleted, and the reinsurance TWIA has purchased has been used, any remaining losses would be paid by imposing unlimited assessments on insurers. Proposed changes to TWIA’s existing structure would reduce near-term capacity because it would take TWIA three years or more to accumulate enough surplus to offset the unavailability of one-third of the Catastrophe Reserve Trust Fund. TWIA would have to assess insurers another $100 million—in essence lowering insurance capacity in the voluntary homeowners market by $100 million. Of course, TWIA could purchase another $100 million of reinsurance, if it is available; however, an additional reinsurance purchase also would negatively impact TWIA’s ability to accumulate surplus.

Louisiana and Florida have created the only property insurance residual markets in the country that have successfully achieved federal tax-exempt status. That fact alone makes their laws worth examining but addressing how they handle post-event policyholder surcharges is more important. The two states have adopted policyholder surcharges that, from a policyholder’s perspective, are identical to the “reimbursement” surcharges proposed by TWIA—i.e., they can be the same magnitude of the surcharge and collected at the same time and on the same policies as the “reimbursement” surcharges. But there is a key difference: In Louisiana and Florida, these surcharges are not used to reimburse insurers; rather, the residual market uses the surcharge revenue directly to fund its losses. This is accomplished by using the revenue stream created by the surcharges to issue pre-event bonds in the capital markets.

In essence, Florida’s and Louisiana’s residual markets, both known as Citizens Property Insurance Corporation, fund 90 percent of any large deficit through post-event policyholder surcharges spread out over a period of years. The other 10 percent is funded through assessments on insurers. The impact on policyholders is similar to that of the proposed legislative changes being considered for TWIA.

Beyond the small im-provement offered by tax-exempt status, the current proposal does not change TWIA’s existing financing mechanism. TWIA would still assess insurers for all losses not funded by reinsurance recoveries and the Catastrophe Reserve Trust Fund. However, the proposed changes would allow insurers to collect post-event surcharges from their property insurance policyholders as “reimbursement” for TWIA assessments. Unfortunately, such surcharges do not help insurers write more homeowners policies in the state—i.e., they do not reduce the detrimental impact of TWIA assessments on insurance capacity.

One reason capacity is not created is because under Statutory Accounting Principles (SAP), insurers are required to record a liability on their financial statement equal to their full share of all projected assessments needed to fund TWIA deficits. However, under SAP rules, reimbursement surcharges generally are not considered to be admitted assets. Therefore, in the year of a hurricane, the insurer must record all TWIA assessments but it cannot book any of the reimbursements. This reduces an insurer’s ability to write more business. The SAP rules are governed by the National Association of Insurance Commissioners, not Texas law, and therefore can only be changed by the NAIC.

Modifying TWIA’s financing mechanism along these lines will help foster a healthier homeowners insurance market by:

• Reducing the amount of hurricane insurance capacity that is essentially being consumed by potential TWIA assessments;

• Making that capacity available for use by insurers in the year a storm hits rather than trying to “reimburse” insurers in subsequent years for the loss of capacity they suffer in the year TWIA sends them an assessment; and

• Potentially increasing the amount of cash immediately available to TWIA in a major catastrophe by creating a revenue stream capable of supporting the issuance of pre-event bonds.

In short, the impact of TWIA on an insurer’s ability to write more homeowners insurance policies would be greatly reduced.

Tiffany O’Shea is director of Public Affairs, American Insurance Association, South-west Region.

Topics Florida Catastrophe Carriers Texas Louisiana Reinsurance Property Homeowners