subject: Why an Unexpected, Nasty Surprise Might be Facing Florida Homeowners This Spring by:Michael Letcher [print this page] For most of us, Florida home insurance is a boring topic. Despite all the turmoil in Florida's dysfunctional homeowners insurance market, most of us don't want to talk about it. We want to pay for it and forget about it until next year.
So it's no wonder that when a story ran in the Florida media earlier this year about two key financial rating agencies (A.M. Best and Demotech) threatening to downgrade the ratings of dozens of Florida homeowners insurance companies unless something was done about the Florida Hurricane Catastrophe Fund shortfall, no one paid any attention.
If these rating agencies follow through on their threat to downgrade Florida home insurance company ratings, the impact would be disastrous for all homeowners in the state.
Let's take a look at how this potentially dangerous situation was created.
The Florida Hurricane Catastrophe Fund (Cat Fund) charges all Florida home insurance companies a premium for reinsurance - which is insurance for insurance companies. It is a simply a mechanism that allows insurance companies to be reimbursed by the Cat Fund, once claims from a major Florida hurricane event exceed certain levels.
Faced with ever increasing Florida home insurance premiums, the Florida Legislature in 2007 increased the size and financial responsibility of the Cat Fund for Florida hurricane losses by an additional $12 billion over previous levels. That move made the Cat Fund directly responsible for up to $28 billion in losses and led to some modest reductions in Florida home insurance rates.
This modification to the Cat Fund seemed like the appropriate step to take at the time, but this approach was not without its own problems. The Cat Fund relies on the full faith and credit of the State of Florida to be able to issue bonds at reasonable interest rates to cover the cost of major storms. That ability to borrow is what allows the Cat Fund to charge less for the reinsurance than insurance companies would have to pay in the private market for this coverage - and in theory, would result in lower Florida home insurance rates.
If our bond markets weren't currently in a state of turmoil, this approach might have worked well for a long time. However, our current financial crisis has changed all of that. Even the most credit worthy governments across the country cannot borrow all that they need from the bond markets. The Florida Cat Fund is no exception.
As the Cat Fund looks at the $28 billion in exposure that it faces, it has publicly acknowledged a shortfall against that responsibility of an estimated $18 billion.
That shortfall means that it is very possible that after your Florida home insurance company satisfies its primary claim obligations after a hurricane, it can't rely on the Florida Cat Fund to reimburse it for losses above those levels. In plain English, that means that some Florida homeowners won't have their hurricanes paid in a timely fashion.
So why do the financial rating agencies care about this shortfall?
When the rating agencies issue their ratings on Florida home insurance companies they know that both you and your bank rely on those ratings to help predict the financial ability of your insurance company to pay your claim promptly and satisfactorily. Among the many things that these rating agencies factor into their rating is the quality of the reinsurance contracts - regardless of whether those contracts are purchased in the private market or from state agencies like the Florida Cat Fund.
When the rating agencies see a potential $18 billion shortfall in the Florida Cat Fund, they know that the chances of an insurance company not being able to meet its obligations increases dramatically if the reinsurance is not reliable. That is why they have threatened to downgrade the ratings of all the Florida home insurance companies that rely on the Cat Fund.
So what happens to you in May of 2009 if this downgrade happens?
You will face nothing short of a major disaster - even if you pay for mortgage on time each and every month.
Here is how this shocking scenario would play out if nothing is done to address this.
The Florida Legislature fails to close the shortfall in the Florida Hurricane Catastrophe Fund during the 2009 session.
AM Best and Demotech lower the ratings of all Florida homeowners insurance companies in May of 2009.
Your mortgage company or bank is notified of these downgrades and let's you know immediately that you need to find a new, more highly rated insurance company or you will be in default under the terms of your mortgage.
Because all the Florida home insurance companies are required to buy certain layers of reinsurance from the Cat Fund, you won't be able to find even one company that will satisfy your Florida mortgage lender.
Your Florida mortgage company will take action to protect the lien that it has on your home by putting forced placement insurance coverage on your home at about 4 times the amount that you had been previously paying for your Florida homeowners insurance - so if the homeowners insurance that you had been buying from your company that had its ratings downgraded was $4,000, the bank will step in and buy a forced placement policy from a company of its choosing that is now going to cost you $16,000 per year!
And here's the worst part.
You'll be paying 4 times the cost of regular Florida home insurance and you won't get a dime after a major Florida hurricane if you have a claim. Forced placement coverage only covers the unpaid balance of your mortgage and it will be paid directly to the bank, not you!
You will be financially on the hook for paying your bank the cost of that $16,000 a year policy every month until you are able to find a replacement Florida homeowners insurance company that has a rating that is acceptable to your mortgage company.
During this period of turmoil all Florida real estate transactions will come to a complete stop - which will further worsen the housing crisis in Florida.
This downgrade in the insurance company ratings is expected to happen by May 15, 2009 if the Florida Legislature does not adequately address the shortage in the Florida Cat Fund - with only two weeks to go before the start of the 2009 Florida Hurricane Season.
Unless you feel like $16,000 a year is a small price to pay to protect only your lenders interest in your property, now would be a good time to contact your Florida Legislator to ask them to clean up the mess that they created in 2007!
About the author
Michael Letcher is a corporate executive and a licensed CPA. His on-line consumer guide can help you find low cost homeowners insurance Florida. Get the secrets to low cost Florida insurance in his free newsletter at http://www.homeinsurancebuyers.org
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