The Homeowner’s Guide to Flood Insurance

It’s raining, it’s pouring… Water, water, everywhere… Raindrops keep fallin’ on my head… Water is so vital to our lives that it is celebrated in nursery rhymes, poems and popular music, but when water damages or destroys our homes, there is nothing romantic about it. Even less romantic is the fact that flood damage is not covered by standard homeowners insurance. Yes, even areas prone to flooding and water damage are excluded under their homeowner’s. There is hope though, in the form of National Flood Insurance.

But first things first, why doesn’t homeowner’s cover flooding? Most people will give you an unsatisfying shrug or tell you to just get a separate policy and forget about it. That’s not what I’m here to do.

Private insurers generally do not cover flooding because the numbers don’t add up. Insurance is a matter of math, where the risk is spread across a large enough pool that there are more people paying than collecting. So, to use purely arbitrary numbers as an example:

Premiums Collected    $100.
- Claims Paid           $  70.
- Overhead               $  20.
————————————–
= Profit                      $  10.
                             
The reason insurance companies don’t cover flood damage is because the number of people who are willing to pay for the added coverage will not pay enough in premium to cover the amount of money they can expect to pay in claims. That means they will lose money on the proposition, and they are not in business to lose money.

The term insurance industry uses is “Adverse Selection” which basically means not enough is going to come in to cover what is going out. Adverse selection keeps most insurers from offering flood insurance to most homeowners but there are exceptions. Some insurers offer private flood insurance to a highly selective group of extremely expensive homes and others offer supplemental flood coverage to policyholders that are part of the National Flood Insurance Program.

Assume at Your Own Risk

When you assume, you lose. And when it comes to protecting your home, making assumptions is costly. The following are some examples of common home insurance assumptions

For instance, if you assume your homeowner’s policy and riders covering hurricanes, earthquakes or vandalism cover the damage from water, you would be dead wrong. In each of these scenarios even though the flooding was the result of an insured risk, the actual damage from the water is excluded.

The National Flood Insurance Program

Prior to 1968 homeowners who lived in flood prone areas were on their own. Congress acted in that year and created The National Flood Insurance Program (NFIP) to provide government issued insurance against losses due to flooding. The program was offered to communities in known flood zones to fill in the gap that was not covered by private insurance.

In 2012 Congress passed the Flood Insurance Reform Act of 2012. The law is intended to make the NFIP “more sustainable and financially sound over the long term”. The law eliminates some rates that were considered artificially low; some policyholders will see a 25% annual increase in premiums – policyholders hit include:

  • Owners of homes that are neither primary nor secondary residences that are in a Special Flood Hazard Area (SFHA)
  • Property owners that have experienced severe or repeated flooding
  • Owners of business properties in a Special Flood Hazard Area

The annual premium increases for these policyholders will continue until their rates reflect their true risk. Owners of primary residences located in SFHA zones will continue to pay subsidized rates until:

  • A lapse in coverage occurs
  • The property is sold
  • Severe, repeated flood losses occur
  • A new policy is purchased

Reducing the impact of high rates can, in some cases, be accomplished by making structural changes to your property. For instance, you can add foundation vents that open to release flood water from crawl spaces, relieving pressure and mitigating damage.

Another potential low cost way to lower flood insurance premiums is having your home’s elevation re-certified. This option is only viable if you suspect your home was improperly measured in the first place. This can happen if you are not the original owner or if the elevation was never certified.

Some people will go so far as to relocate their home to higher ground on their property. While a relocation to higher ground is a major expense, if the difference in elevation is significant enough, it can mean the difference between flooding and not flooding.

Private Flood Insurance Coverage

The National Flood Insurance Program does not offer coverage to every property in the country. That might sound counter intuitive but it is nonetheless the truth. NFIP only covers properties in participating communities. A community that is located in an identified floodplain must apply for and agree to participate in the NFIP. If a community does not meet the requirements for participation, no one in that community will be able to purchase flood insurance through the program.

There are some private insurers who offer private flood insurance – most of which only offer it to properties that are not eligible for the federal program. The companies that do offer flood insurance usually have relatively low limits, especially when you consider the fact that a major flood can completely destroy a building. Common limits are in the $250,000 range.

Excess Flood Coverage

NFIB coverage is generally limited to $250,000 for residences and $500,000 for a commercial property. Excess flood insurers offer coverage in excess of the NFIB limits. This means that if your home is worth $500,000, not including the land, you can purchase an additional $250,000 of excess coverage to compensate you in the event your home is completely destroyed by a flood.

What’s Not Covered

Not all water damage is considered a “flood,” even if it fills your basement. As with all insurance it is important to understand what is and isn’t covered by your policies. Flood insurance does not protect you from things like burst pipes, leaking appliances, stopped up sinks, broken toilets or landscaping gone bad.

Hurricane Insurance

Unlike flood insurance hurricane insurance is provided by private companies but presents some potentially tricky issues for you to consider. When it comes to hurricane coverage, careful reading and understanding is required to make certain you’re protected. Most homeowner’s policies protect against hurricane damage, but this is where things get complicated – the question is: What constitutes damage from the hurricane?

What is Hurricane Damage?

Hurricane and tropical storm damage for the purposes of homeowner’s insurance is limited to the damage caused by the wind directly and indirectly and does not cover direct or indirect water damage.

Isn’t wind and water all part of a hurricane? They are, but only wind damage is covered. The difference is, if your home is blown off it’s foundation by hurricane winds, you’re covered. If it is washed off it’s foundation by storm surge, you aren’t. If a tree next to your house is blown down by the wind and crashes through your roof, you are covered. If storm surge knocks down the tree and it crashes through your roof, you aren’t. The tricky part for many homeowners when dealing with post hurricane claims is getting the insurance company to pay for wind damage that they assert was caused by water.

After Katrina, many coastal community homeowners spent years fighting with insurers about whether the wind destroyed their homes before or after the storm surge. Timing was the determining question of whether they were covered or not. This was particularly true for the majority of homeowners who did not have flood insurance and were exclusively at the mercy of their homeowner’s policy.

Special Rules

While hurricane coverage is usually part of your homeowner’s policy, there may be special rules that apply to hurricanes that differ from the rest of your coverage. These rules usually apply to high risk coastal communities and generally pertain to deductibles.

Your homeowner’s policy as a whole, for example, may have a $500 deductible which means that the first $500 in damage is paid by the policyholder; the insurance would cover the rest of the balance. Insurance companies often have separate deductibles for hurricanes and not understanding this can be quite costly in the event of a hurricane.

Special hurricane deductibles can be a percentage of your home’s value rather than a straight dollar amount. For example, the hurricane deductible might be 5% of your home’s value at the time of a storm. That means a $300,000 home has a deductible of $15,000 for hurricane damage instead of their normal $500 deductible.

In high risk areas some insurers exclude hurricane coverage altogether and require that an additional premium be paid in order to add it to the policy. Others that provide hurricane coverage as a standard part of the policy, but have a higher percentage based deductible, may require a higher premium to lower the deductible.

What’s in a Name

Super Storm Sandy presented an interesting and fortunate situation for coastal residents of the eight states affected. The National Weather Service downgraded it from a hurricane to a post tropical cyclone before it made landfall, which allowed homeowners to make their claims against their standard deductibles rather than against the higher hurricane deductibles.

Conclusion

The one piece of advice that you will find throughout this site is that you as the policyholder is ultimately responsible for understanding your coverage – the same goes for homeowners. Your home is the single largest investment you are ever likely to make and protecting it is of the utmost importance. Read and understand your home insurance policy and ask questions to make sure you understand your risks and responsibilities.

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