State Farm’s 67% rate increase request raises important issues

Brian Martin’s comments on the Open Thread provided links to news from coastal areas as distant as Massachusettes and Texas – including one about the 67% rate increase State Farm has proposed in Florida.

State Farm Florida Insurance Co. now wants a 67 percent average statewide property insurance rate increase, months after Florida Insurance Commissioner Kevin McCarty said he would reject the insurer’s proposed 47 percent rate boost.

Three issues of particular interest were raised in the story:

  • discounted rates for certain property improvements;
  • projected exposure for the upcoming year; and,
  • an adequate surplus.

discounted rates for certain property improvements

The insurer said it took a big hit on discounts it’s required by state law to provide for policyholders who fortify their houses and condominiums against hurricanes. The number of State Farm policies that qualified for discounts in Florida increased from 112,000 in late 2006 to 264,000 as of August.

Ironically, State Farm struck a deal with Florida insurance officials in September agreeing to refund $120 million to policyholders and pay the state a $1 million fine to make up for discounts it should have provided for hurricane-resistant homes.

If discounts are a revolving door for rate increases as this suggests, then the stage is being set in Mississippi and Louisiana according to recent Insurance Journal interviews with the Insurance Commissioner in each state.

Chaney… has an education package he uses to show insurance carriers what the state is doing in enforcing building codes.

Even more important than the educational efforts are the premium discounts he has negotiated from insurers for homeowners who build or retrofit their structures to comply with the new building codes. He said at least three major insurers would announce before the end of the year that they will give discounts up to 35 percent for building back or retrofitting existing homes to building codes.

“They’re sliding scales. If you put straps down, you may get 5 percent. If you fix your roof sheathing, you may get another 5 percent. All the things you do — impact windows, shutters on the windows — it builds up. Then, in addition to that, if you put all your eggs in one basket with that company, where you may have your automobile in addition to all of the other things that you insure, then you can stack those discounts and get as much as 50 percent discount on your homeowner’s insurance,” he said.

Efforts in Louisiana have a longer history according to report of Commissioner Donelon’s interview.

Two months after Katrina and Rita, then-governor Blanco called the legislature into special session and passed, for the first time in the history of our state, a new state-wide building code, modeled after what Florida put in place after Hurricane Andrew. …

In an aerial visit over South Terrebonne Parish, where Gustav made landfall, with the local legislative delegation, two senators and a representative from that area, it was incredibly obvious how much difference it made – those that were newly constructed, those structures that were new, built to the new building code, versus the splinters and rubble of the buildings right next door that were not built to that standard.

In addition to that, as part of the requirements of the federal flood insurance program, the elevations have been raised – so that folks are now being required to build up high, above the ground, to meet those elevation requirements. And we can see, clearly, that building codes and elevating properties makes those structures much more survivable in hurricane events like we have had the past several years.

If Donelon is correct, the result would be fewer and smaller claims which would suggest discounts should lead to lower rates and not the revolving door rate increase proposed by State Farm.

projected exposure for the upcoming year

The state Office of Insurance Regulation’s analysis of State Farm’s price increase request claims that the insurer… Appeared to factor in a profit of close to 20 percent, although it cedes the bulk of its risk to backup insurers…[and]…Failed to provide enough support for increasing its projected maximum losses from $7.4 billion in 2006 to $9.25 billion for next year.

The issue here – transfer of risk – has been a hot topic on the Allstate board at Yahoo finance.  The estimated insured loss from Hurricane Ike is now around half of the initial estimate.  It will be interesting to see the evidence State Farm produces to support a rate increase for risk they transfer as well as evidence documenting the reliability of their estimates.  Stay tuned for more on this as the process in Florida unfolds.

an adequate surplus

State Farm wrote in documents it submitted to Judge Manry that a 47 percent increase “is actuarially inadequate” and that it “needs a rate increase to be better able to pay the claims of its customers and maintain an adequate surplus to pay claims in case of a catastrophic event.”

Sop addressed State Farm’s surplus in a post he wrote earlier this year.

So while we try to make sense of how State Farm adjusted their multi peril claims here after Katrina in terms of misguided notions like “they had to commit fraud or they would have gone bankrupt”, it would help to arm ourselves with some facts including basic financial facts such as after paying almost $4 billion dollars in claims, State Farm’s Property and Casualty Subsidiary still had over $3.5 billion dollars of “unassigned surplus” while posting over $2 billion dollars of profits in the two years ended December 31, 2006. That’s right, State Farm actually made money despite paying those Katrina related claims.

For those interested in State Farm’s financial condition the last audit of their P&C subsidiary can be found here.

The surplus insurers are required to maintain is an issue getting a good bit of play nowadays.  Solvency II, for example, calls for a shift away from this traditional approach to risk management to a focus on newer strategies.  Efforts in this country for federal regulation of the industry mirror that shift.  In that regard, State Farm’s request begs questions about rate increases needed to maintain adequate surplus – none more than is the increase needed or a political strategy.

These issues are but a few of the many that need further discussion and comments that further our collective understanding are welcome.

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